Fortnightly - Mergers & Acquisitionshttps://www.fortnightly.com/article-categories/mergers-acquisitions
enReflections from The Room Where It Happenedhttps://www.fortnightly.com/fortnightly/2016/12/reflections-room-where-it-happened
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Leadership Lyceum Podcast Summary</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Tom Linquist</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Tom Linquist</strong> is a partner at a leading global executive search firm. He is an expert on executive assessment and leadership development, and can be reached at <a href="mailto:Linquist@LeadershipLyceum.com">Linquist@LeadershipLyceum.com</a>.</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - December 2016</div></div></div><div class="field field-name-field-import-image field-type-image field-label-above"><div class="field-label">Image:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1612-FEA3-Rigby.jpg" width="622" height="875" alt="Joe Rigby" title="Joe Rigby" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1612-FEA3-Silverman.jpg" width="875" height="862" alt="Les Silverman" title="Les Silverman" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1612-FEA3-Skaggs.jpg" width="624" height="875" alt="Bob Skaggs" title="Bob Skaggs" /></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p style="text-align: center;"><em>“No one really knows how the game is played / The art of the trade / How the sausage gets made</em></p>
<p style="text-align: center;"><em>We just assume that it happens / But no one else is in / The room where it happens.”</em></p>
<p style="text-align: center;"><em>– Lin-Manuel Miranda, “The Room Where It Happens” from the Broadway musical “Hamilton”</em></p>
<p>Our foursome gathered on a crisp autumn day in our nation’s capital. I could barely contain my exuberance at being joined by two recently retired utility CEOs and a highly regarded member of both of their boards.</p>
<p>These were McKinsey &amp; Co. Director Emeritus Dr. Les Silverman, former Lead Independent Director of Pepco Holdings Inc. (PHI), and Independent Director of Columbia Pipeline Group (CPG). And Bob Skaggs, former CEO of NiSource, and then CEO of CPG. And Joe Rigby, former CEO of PHI.</p>
<p>As a board member for both companies, Les Silverman was at the vertex of notable mergers and acquisitions transactions that took place under the leadership of each of these CEOs over the last two years.</p>
<p>At NiSource, Bob Skaggs presided over the separation of the gas storage and transmission assets from the regulated utility. He led CPG’s spinoff from NiSource into a standalone publicly traded company in July 2015, and the subsequent sale of CPG to TransCanada one year later.</p>
<p>Joe Rigby led the sale of PHI, or simply Pepco, to Exelon.</p>
<p>The NiSource – CPG transaction unfolded in a relatively smooth and speedy manner. The Pepco acquisition could only be described as epic and protracted.</p>
<p>Much has been written about the legal, financial, strategic, and operational details of these transactions. The complex human and social interactions that lead to these monumental decisions usually go unexamined.</p>
<p>Notwithstanding the perfect golf weather that day, we were not there to golf. My fabulous foursome gathered in the Pepco offices in Washington, in one of the rooms where it happened several months after the completion of their transactions. To reflect on the deliberations and perspectives of the executives and one of the non-executive directors who made it all happen. </p>
<p><b>Bob Skaggs:</b> At NiSource, the company was comprised of a significant, large, multistate utility, but we also had a large natural gas pipeline company and a midstream company that were just beginning to grow.</p>
<p>Over the course of several years, management and the board asked ourselves, does that combination of assets make sense? Do the risk profiles match up? Are the businesses compatible? What are the financing requirements as both companies began to grow?</p>
<p>There were certainly strong points of view initially that the companies belonged together and that there was strength because they were in different parts of the energy industry. But as both companies’ growth accelerated and the demands for capital began to increase dramatically – and the risk profiles diverged as pipeline companies became quasi-unregulated – the management, the board and our advisors took a different look.</p>
<p>Over a period of time and quite a lot of study and deliberation, ultimately we concluded that the utility should stand alone with its own capital structure, its own credit rating, its own risk profile, and that the pipeline was better suited to be on its own.</p>
<p>However, we tried to use a thoughtful, deliberative process to come to the right answer for our shareholders and our stakeholders, and I’ll underscore stakeholders. For a management team and a board, choosing to split up a company that’s really doing quite well and thriving was a momentous decision.</p>
<p><b>Joe Rigby:</b> Like many other companies, Pepco had an annual strategic planning process. Part of that discussion with the board always included a discussion of the mergers and acquisitions landscape. We were very fortunate to have many investment bankers who were willing to come in and talk to us about these possibilities.</p>
<p>I think what is a little bit unique about us is that we went through two very difficult situations. First, we had generating plants for which we were not the right owner. We sold them in 2009 and 2010 and were going to use the proceeds to bolster the balance sheet and then build the utility.</p>
<p>Then, in the latter part of 2010, we entered a very difficult period of operational reliability issues, particularly here in the D.C. area, where we were really challenged to earn our allowed returns. I can remember during the latter part of 2012 going into that planning retreat and concluding that if we couldn’t get better outcomes in terms of our return to our shareholders, we might have to look at other options. I don’t know if I’ve ever even mentioned this to [Director Les Silverman].</p>
<p>Consolidation in the industry was a possibility, and because we were improving our operational reliability, I understood we were going to become more attractive over time. Fast-forward into 2013, I had made a decision that I wanted to retire.</p>
<p>Les was about to become our next Lead Independent Director. I remember discussing the succession process at a board meeting, and saying we should not be surprised if we received offers.</p>
<p>So I felt that the expression of interest was somewhat inevitable, and the board and I were already chewing on what we had to do simply to get the return to our shareholders. As it played out, the day after I announced my retirement, I got a phone call from Chris Crane, CEO of Exelon, so it happened pretty quickly, but I don’t think we were surprised.</p>
<p><b>Les Silverman:</b> I want to emphasize that these two guys are both thoughtful and they led very deliberative, strategic planning processes. It was always on the table that either company could be acquired or, for that matter, acquire others.</p>
<p>It was, as Joe indicated, certainly part of our annual process at Pepco. From the beginning, as the new guy on the board, when Columbia Pipeline Group was spun off from NiSource, we discussed the circumstances under which we would entertain offers, as well as those under which we might, in fact, go looking for offers.</p>
<p>We didn’t know exactly what our options would be over time. In CPG’s case, we didn’t know the role others might play in helping meet those capital needs. In neither situation was this unexpected or surprising. But there is, of course, that moment when you know that this one is serious and we’ve got to take it seriously. These transactions are always on the mind of the board members. When that call comes, we know how to move and act.</p>
<p><b>Joe Rigby:</b> As I think back to the initial discussion with Chris Crane, the clarity that he brought from a commercial point of view was very helpful. Chris explained in a very granular way why this fit into Exelon’s strategy. It allowed me to go back to the board with more than just, ‘Hey, I got a phone call.’</p>
<p>We were able to go through that intellectual exercise and see the possibilities. Doing this somewhat from memory, I think that that would have occurred sometime in the end of January 2014.</p>
<p>By the end of February 2014, we had reached a point where we thought, we really want to do this in a more fulsome way. Not just take it out to any bidder, but to assess this offer with perhaps other expressions of interest to get a more fulsome view.</p>
<p><b>Bob Skaggs:</b> Just to give you a little bit of the process, we spun the pipeline in July 2015. And, this is public information that’s disclosed in the proxy that went along with the transaction. We didn’t receive a call quite as quickly as Joe did after his retirement announcement. But within a matter of days after the spin, we had our first approach from an interested company.</p>
<p>That was scrutinized with a lot of care and thought. Although our transaction proceeded fairly quickly, I don’t think we short-circuited the deliberation process.</p>
<p><b>Les Silverman:</b> Bob’s career plan was not irrelevant to the way the board thought about the Columbia transaction. He emphasized the clear thinking about the strategic plan, and from a board perspective, that’s crucial.</p>
<p>But you also need a management team to execute that plan. Part of your thinking on the board is about the value of a company going forward and how to think about that in the context of a potential transaction. That includes the leaders of the company who are going to carry out that plan.</p>
<p>Our Columbia board had enormous confidence in Bob. We had enormous confidence in the team Bob had built. Bob had let us know that his retirement was not necessarily a long way off, and that became a factor in deciding whether this was the right time and the right offer.</p>
<p>In thinking about the future against which we would compare an offer, we had to think about who that management team was going to be down the road. The numbers are important, but the people behind the numbers are also important.</p>
<p><b>Joe Rigby:</b> I’ve had time to replay all this in my mind, but one thing that I would offer to you is that it was not the plan to sell the company. Even with the succession planning, the energy and the drive across the board and the management team was to run Pepco as an independent company.</p>
<p><b>Bob Skaggs:</b> I would amplify and underscore that in our case, as well. We spun CPG out with all the intent to run it as a stand-alone, growing company. That was the complete expectation. In fact, the board wanted to ensure that we were properly positioned to do that.</p>
<p><b>Les Silverman:</b> When we were first considering the decision to go ahead with the merger, the attorney we had hired, Joe Frumkin from Sullivan &amp; Cromwell, said to our board, ‘Once you decide to go ahead with this, your role changes completely.</p>
<p>You will have really very little to do with driving a company through the transaction, but you’ll have a lot to do with saving it if the merger doesn’t go through.’</p>
<p>We spent most of the next twenty-three months in this boardroom talking about what to do if the merger failed. We had to keep our management team appropriately incentivized to keep delivering the value to the acquirer, but we also had to be prepared to oversee the running of the company if the merger failed.</p>
<p>We had just one bleak scenario after another for twenty-three months, because we had to be ready, we had to know what to do if the merger failed, which could’ve happened at any point. Certainly, it seemed quite possible, if not even likely, toward the latter part of this process.</p>
<p><b>Joe Rigby:</b> I think it’s fair to say, and I’m sure it was the experience Bob had, that the further up you go there is a buy-in and a commitment that are at a very deep, emotional level. It was never lost on me the incredible honor it is to run a company and to lead a company.</p>
<p>If I back up to even before the offer came in, one of the great things we accomplished as a company was to take a severely damaged brand and work our way through to the point where we weren’t just in recovery mode, but had really almost come back.</p>
<p>In many ways, that galvanized the pride that the board felt, and became an issue when we were thinking about the possibility of selling the company because we had just gotten the company back on track. It was interesting to observe that deep emotional connection while simultaneously going through the intellectual process of assessing the offer. But everybody got there.</p>
<p>The other side of it is almost a two-part story. I think we did a good job calibrating expectations on the board and the Wall Street side, that this transaction would probably take twelve to fifteen months. Simply because we were going through multiple jurisdictions.</p>
<p>Our board meetings always included discussions of the merger, and also a discussion about our operational performance and the potential actions we’d have to take if the merger failed.</p>
<p>That all changed in August 2015, when the merger was denied in D.C. It was a significant challenge to reassure everybody that even if the merger failed, it would be survivable, but we were still going to make an effort to get this back on track. Over the next two to three months, it was very difficult to simultaneously plan for a different future and try to keep the transaction on track.</p>
<p>You had to know, literally the next day, exactly what you were going to do to send a message to the various constituencies about what this company was going to be. One of the best things about the board room is that it gives the CEO a place to be themselves, rather than always having to play the role of projecting absolute confidence.</p>
<p>For sure you need to do that with your employees, but I always appreciated how the PHI board allowed me to be myself in times of challenge. I mean, obviously, you want to project confidence, but you can be more yourself rather than the image of absolute confidence you need to project to the rest of the company.</p>
<p>Yeah, I felt confident, but, I’m human. I have doubts and concerns about things. I never felt that our board lost confidence in the management team because the transaction didn’t pass through the first time. It was much more of, ‘Let’s get focused on what we have to do to get this back on track, but also be super prepared if the deal does, in fact, fail.’</p>
<p><b>Bob Skaggs:</b> We didn’t have a situation where there was political and regulatory uncertainty, but if I think back to what happened at NiSource and Columbia Pipeline, we announced that we were going to spin, separate the company, in the fall of 2014.</p>
<p>We were going to do it effective in the middle of 2015, so we had an organization fraught with uncertainty. Our employees were doing an incredible amount of work on a very fast track to separate the company, but we still had to move gas, produce electricity, and do all of those sorts of operational activities, even when we were separating the company and doing all of that work.</p>
<p>The board was a great ally, and the senior leadership folks out in the field just did a wonderful job of doing what they do. You do have to be pretty adept at compartmentalizing or segueing from one situation to the next.</p>
<p><b>Joe Rigby:</b><b> </b>I go back to when I became CEO in 2009. One of the things I did every year was go out and talk to every employee. It would take us maybe three or four weeks to talk to all five thousand, but I had a channel to actually talk to everybody about what was going on.</p>
<p>The company was small enough where you could do that over a reasonable period of time. They were hearing it directly from me, coming from the boardroom.</p>
<p><b>Les Silverman:</b> I want to go back to the August event of 2015, after getting approvals from New Jersey, Delaware and Maryland. And Maryland was no slam dunk. That was the first time it looked like the merger was not going to happen, but we got a three-to-two vote in Maryland.</p>
<p>Then in D.C., which some had assumed would be easier than Maryland, it came down as a ‘no’, much to everyone’s surprise, and with the champagne corks ready to pop. A unanimous no. A unanimous denial.</p>
<p>I remember Joe calling me. I was on the beach somewhere, it was August, and we had to help the board through all five stages of grief in about a day and a half.</p>
<p>There was a lot of anger and a fair amount of depression. And when acceptance came, it was because we knew that Joe and his team, even if they didn’t have a plan right then, that they were going to have it.</p>
<p><b>Joe Rigby:</b> At the end of the day, you’re dealing with people, and I think we did a decent job of allowing people to emote. The board is going to be part of the healing. They have the energy to go forward, even if it’s a tough road ahead, to get people focused on running the company and creating value, while stopping long enough so that people felt like their emotions were being acknowledged.</p>
<p>I think Les did a great job of holding the space for that dialogue to happen. I remember we immediately convened the board the afternoon we got the first denial.</p>
<p><b>Les Silverman:</b> Between Joe and me, we spoke to every board member, kept everybody informed of where we were, got their reactions and expressions of concern or disappointment or hope or whatever was the case. There was a lot of confidence that we were going to come through this okay. If we end up on our own, that’s okay, we’re ready for it.</p>
<p>Joe and, obviously, colleagues at Exelon came up with another Hail Mary pass to throw, which turned out to be successful. It was the confidence we had in Joe and his team, and the relationship that Joe had formed with Chris Crane and the team at Exelon, that gave us confidence that this was worth another try. Even though there was certainly some risk to our go-it-alone plan by hanging in there for another eight, nine months.</p>
<p>If it didn’t happen, we were going to be that much further behind. But again, we brought out the numbers, did a careful analysis and thought that it was worth the shot, and it turned out to be. The more we talked about it, if not in those first conversations, then when we got everybody together. I think there was very quick coalescence around the plan going forward.</p>
<p><b>Joe Rigby:</b> The point Les was making was that, as time went on, we felt like we were walking further out on a limb. From a legal point of view Exelon needed to stay in until the end of October 2015 when the merger agreement lapsed. This is where [Joe Frumkin of Sullivan &amp; Cromwell] was particularly invaluable.</p>
<p>But at the moment when the merger failed, we didn’t have an immediate ‘Oh, it’s over.’ It was much more about going right back to making our best efforts to get the transaction done. Chris Crane was phenomenal about this.</p>
<p>We had a little time simply because of the term of the merger agreement. When we got past October 29, at that point, we had actually struck a settlement agreement with the city. And that gave us great confidence that we would probably get through this okay.</p>
<p>Candidly, at the end, it was a surprise that they approved it. I remember we got the order at 2:00 p.m. Les called me at 2:05 p.m. and wanted to know what the hell was going on because the stock price had just jumped.</p>
<p>I said, ‘You’re not going to believe it. They’ve approved the merger.’ He got here to the Pepco building by 3:00 p.m., and by 3:15 p.m. Exelon had moved money into the Wells Fargo account. By 5:00 pm we closed the transaction and I was unemployed. Other than that, it was just another day at the office.</p>
<p class="p4"> </p>
<p><em>To hear the full interview, please visit the podcast <a href="https://itunes.apple.com/us/podcast/leadership-lyceum-ceos-virtual/id1118682019?mt=2">Leadership Lyceum: A CEO’s Virtual Mentor</a> at Apple iTunes, or stream part one of the audio here: </em></p>
<p><em>Part One</em></p>
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</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/natural-gas">Natural Gas</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/strategy-planning">Strategy &amp; Planning</a></li><li class="taxonomy-term-reference-2"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-department field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Department: </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/department/people-power">People In Power</a></li></ul></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1612-FEA3.jpg" width="875" height="563" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Tue, 29 Nov 2016 16:05:37 +0000meacott23761 at https://www.fortnightly.comBob Flexon: Leadership Lyceum Podcast Summaryhttps://www.fortnightly.com/fortnightly/2016/11/bob-flexon-leadership-lyceum-podcast-summary
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Five-Year Anniversary Conversation with Dynegy CEO Bob Flexon</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Bob Flexon, with Tom Linquist</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Tom Linquist</strong> is a partner at a leading global executive search firm. He is an expert on executive assessment and leadership development, and can be reached at <a href="mailto:Linquist@LeadershipLyceum.com">Linquist@LeadershipLyceum.com</a>.</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - November 2016</div></div></div><div class="field field-name-field-import-image field-type-image field-label-above"><div class="field-label">Image:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1611-FEA1-Flexon.jpg" width="1500" height="1178" alt="The challenges of transforming culture in a dynamic business environment are never over." title="The challenges of transforming culture in a dynamic business environment are never over." /></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p><em>Everything in nature is resurrection. </em>– Voltaire </p>
<p>A Fortune 1000 company, Dynegy is the second largest independent generator of electricity in the U.S. It operates twenty-six thousand megawatts of power generating facilities in eight states. This past June, Bob Flexon celebrated a remarkable five years as CEO of Dynegy.</p>
<p>He joined Dynegy in June of 2011 and within his first year led the company through orderly bankruptcy proceedings. Prior to the end of year two, Dynegy acquired the power generation assets of Ameren in St. Louis for nine hundred million dollars.</p>
<p>Early in Flexon’s fourth year, Dynegy completed the simultaneous acquisition of Duke’s Midwest power generation assets for 2.8 billion dollars, and EquiPower Resources for 3.45 billion dollars. It doubled Dynegy’s net power generating capacity.</p>
<p>During his fifth year, Dynegy announced the acquisition of French company ENGIE’s North American fossil portfolio. This was done through a joint venture with Energy Capital Partners, a private equity group.</p>
<p>This transaction continues Dynegy’s transformation into a predominately gas generation fleet. It will increase net generating capacity another fifty percent to nearly thirty-five thousand megawatts. That’s enough power capacity to supply about twenty-eight million homes.</p>
<p>The complexity and drama of each of these major events in Dynegy’s reformation are worth another article in their own right. But this is not a story about the impressive execution of transactions. Rather, it’s a glimpse into how a CEO in our industry has successfully addressed the biggest challenges in any organization: the environment, culture and people.</p>
<p>Flexon joined Dynegy during a highly distressed period for the company. The financial situation required urgent action. “Dynegy went through a really tough time prior to my arrival,” he reflects.</p>
<p>“The entire executive management team resigned, the board of directors resigned, and there were two failed takeovers. Anybody who could was leaving the company, or about to leave the company, thought that there was probably a bankruptcy four or five months down the road – which there ultimately was.”</p>
<p>From the start, Flexon outlined and communicated a straightforward set of objectives. “I wanted to work through the tough beginnings of the restructuring,” he recalls, “to be accepted by the broader organization, to build a place where people want to come to work and where they’re proud of what they do. And maybe, most of all, to provide the chance for Dynegy to feel what it’s like to win again.”</p>
<p>He determined that the situation required the trust and familiarity of a seasoned team. “The first thing that I did coming out of the gate was ensure that we had an experienced team that could hit the ground running,” Flexon explains. “I brought a half a dozen or so people that I’d worked with in the past. Virtually all of them were at NRG at the time.”</p>
<p>“Being surrounded by some very talented, team-oriented folks made our entrée here into Dynegy that much easier, and set us up for a better chance of success than if I had come by myself.”</p>
<p>Flexon anticipated the consequences that such a radical staff change would entail. “In a distressed environment, people are worried about their future and their careers,” he recounts. “And when you had all these strangers coming in carrying NRG passports, you could easily see an insiders-versus-outsiders situation developing. We worked hard to develop trust with the existing Dynegy employees, and it took time.”</p>
<p>There are parallels that can be drawn between the impact of major life events on us as individuals and the impact of business events on an organization. We can all imagine the impact of major life events such as job change, divorce, a home move, the death of a loved one, or a major illness on our stress levels.</p>
<p>We can also imagine major business events having a similar impact on stress levels in employees of an organization. These events produce a collective and magnified effect on the organization as a whole.</p>
<p>Flexon’s awareness of the impact of the distress and his early focus on getting the team and culture well-established helped the organization in a number of beneficial areas. One area included the ability to better deal with stresses and challenges.</p>
<p>With the team selected and in place, he focused on the chemistry and the culture of the organization. “When the team got here we knew that the restructuring here was about the financial restructuring, the organizational restructuring, but most important of all, the cultural restructuring,” explains Flexon. “Kevin Howell, who came in as our COO at Dynegy and had worked with me at NRG, had experience with the management consulting firm Senn Delaney when he was at Dominion. Kevin brought the experience to NRG.”</p>
<p>While culture can be an ethereal concept, Flexon found solid footing for establishing and sustaining culture through this approach, which “brings tools and methods that will give us the opportunity to shape the culture, as we say, rather than the culture shaping you.”</p>
<p> “You participate in active listening. Active listening, not being judgmental, but listening to understand and listening to exchange viewpoints. Providing coaching and feedback is important,” according to Flexon.</p>
<p>In referring to the key ‘shadow of the leader’ concept, Flexon explains, “It means that we all cast a shadow and that’s what shapes an organization’s culture. The CEO really influences an organization by the tone that’s set. If you’re visible and you’re leading with the values of the company, your employees feel comfortable with you.”</p>
<p>Culture shaping begins with defining individual purpose and then organizational purpose. “It makes you focus first and foremost on yourself and your behaviors and your actions, because that’s what’s going to start driving the culture,” Flexon says.</p>
<p>He goes on to describe his management team’s purpose and areas of focus. “We want to focus on communication, involvement, and visibility. We don’t have individual offices. It’s just one big, wide-open floor,” Flexon proudly describes.</p>
<p>“It’s important for us to sit with our groups and to be visible on the floor walking around and engaging with people. It’s about making sure they realize that we appreciate what they do, and that what they’re doing creates value. We actually demonstrate concern and care for their careers and being part of the team.”</p>
<p>“It’s really important for us to be visible in the plants,” he continues. “In so many locations you hear that they’ve never seen a CEO, or a CEO hasn’t been here since the 1990s. So you get out to the people in the plants, you talk to them.</p>
<p>I think the most important trait for a CEO, particularly when they’re in front of employees, is really just to be realistic, honest, and open, particularly in tough times.”</p>
<p>Tracing culture to business results and vice versa is more art than science, and the lack of a concrete numerical link can be a barrier for some companies in launching a focused culture program. Nevertheless, there are clear signs of the effectiveness of the program in Dynegy’s experience, as well as some unforeseen fringe benefits.</p>
<p> “The first acquisition that we did with Ameren,” Flexon says, “we were in the conference room meeting with the Ameren team, and on the walls you see the posters about curiosity, shadow of the leader, honesty, integrity.”</p>
<p>He continues, “So when we acquired the Ameren assets, we were not the best financial offer for them, but it was important to Ameren CEO Tom Voss to have the assets go to an organization that shared similar cultural values and principles. It brought our two organizations that much closer together, that much faster, because we have a lot of shared values about how an organization should work together.”</p>
<p>“Agility is one of our values. And when you think about what we did, doing two acquisitions simultaneously, announcing in August of 2014, that doubled our enterprise value. We had to raise the financing in the debt markets and the equity markets.</p>
<p>“The ability to do simultaneous due diligence, simultaneous closings, when the counterparties of each didn’t know about the other, was important. And in the case of Energy Capital Partners, we were competing against them on the Duke Midwest assets.”</p>
<p>Dynegy competed with Energy Capital Partners to purchase the Duke assets, bought EquiPower from ECP, and partnered with ECP on the purchase of the ENGIE assets.</p>
<p>“I’d say one of the proudest days that we’ve had here is when the Houston Chronicle, after we announced the dual acquisitions in August of 2014, ran the lead story on the business page that Dynegy was ‘back among the power elite.’ And for our organization to see someone from the outside referring to us that way, it’s like, things are different, and that just feeds the culture and feeds the enthusiasm.”</p>
<p>“I’ve always said, since I came to Dynegy, it’s one team, it’s one goal, and we want to be the best independent power producer out there. There isn’t an independent power producer that has done more than we have to transform what we were and what are we becoming. And that’s again, driven by an organization that is enthusiastic, wants to win, and has the right environment to allow people to perform their best.” </p>
<p>Flexon’s experience at Dynegy demonstrates that cultures can be systematically shaped in order to better support business results and to make companies great places to work. His approach to Dynegy’s situation was unique.</p>
<p>During turbulent times, organizations typically respond by implementing new strategies, systems, processes and organizational structures. It is rare for leaders to address the culture and the people that will actually carry out the changes and ultimately achieve success for the company.</p>
<p><span style="font-size: 13.008px;">Dynegy’s journey over the last five years is a success story. But the challenges of transforming culture in a dynamic business environment are never over.</span></p>
<p> </p>
<p><em><span style="font-size: 13.008px;">To hear the full interview, please visit the podcast <a href="https://itunes.apple.com/us/podcast/leadership-lyceum-ceos-virtual/id1118682019?mt=2">Leadership Lyceum: A CEO’s Virtual Mentor</a> at Apple iTunes, or stream the audio here:</span></em></p>
<p><em><span style="font-size: 13.008px;">Hear Part 1</span></em></p>
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<p><em><span style="font-size: 13.008px;">Hear Part 2</span></em></p>
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</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/people">People</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/strategy-planning">Strategy &amp; Planning</a></li><li class="taxonomy-term-reference-2"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1611-FEA1.jpg" width="1500" height="944" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Fri, 28 Oct 2016 16:18:02 +0000meacott23506 at https://www.fortnightly.comPUF Top 20 Financial Performershttps://www.fortnightly.com/fortnightly/2016/10/puf-top-20-financial-performers
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>PSEG, NextEra, Wisconsin Energy, OGE Energy, Pinnacle West, IDACORP, etc.</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Steve Mitnick</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Steve Mitnick</strong> is Editor-in-Chief of <em>Public Utilities Fortnightly</em> and author of the book “Lines Down: How We Pay, Use, Value Grid Electricity Amid the Storm.”</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - October 2016</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p>The PUF Top Twenty Financial Performers were selected through a ranking of six financial metrics. Their ordering, from first to twentieth, was based on a simple average of their six ranks.</p>
<p>Public Service Enterprise Group came in first this year. The Newark, New Jersey based company was one of the top twenty, and the first among them, by ranking first against one of the financial metrics, third against two of the metrics, fourth against two of the metrics, and eighth against the remaining metric.</p>
<p>NextEra came in second this year. The Juno Beach, Florida based company ranked first against one of the financial metrics, third against one of the metrics, fourth against one of the metrics, sixth against one of the metrics, tenth against one of the metrics, and sixteenth against the remaining metric.</p>
<p>Wisconsin Energy came in third this year, tied with OGE Energy. The Milwaukee, Wisconsin based company ranked second against one of the financial metrics, third against one of the metrics, fourth against one of the metrics, eighth against one of the metrics, ninth against one of the metrics, and fifteenth against the remaining metric.</p>
<p>OGE Energy also came in third this year. The Oklahoma City, Oklahoma based company ranked second against two of the financial metrics, fifth against two of the metrics, tenth against one of the metrics, and seventeenth against the remaining metric.</p>
<p>The top five, or six because of another tie, includes Phoenix, Arizona based Pinnacle West and Boise, Idaho based IDACORP. Just missing the top five, but among the top ten, were SCANA, Alliant Energy, Southern Company and PPL Corporation.</p>
<p>The rest of the top twenty were American Electric Power, AES Corporation, Vectren, CMS Energy, Consolidated Edison, Sempra Energy, Northwestern Corporation, Xcel Energy, Avista Corporation, and DTE Energy. Congratulations to this year’s PUF Top Twenty!</p>
<p>And trends? Though the Top Twenty companies hail from all regions of the country, we do note that the Midwest and northwest were particularly well-represented.</p>
<p>In the Midwest, the Top Twenty includes two investor-owned utilities that primarily serve the state of Michigan and two that primarily serve the state of Wisconsin. And one that primarily serves the state of Indiana, and another that serves Michigan, Indiana and Ohio (American Electric Power). That’s six of the Top Twenty companies.</p>
<p>In the northwest, the Top Twenty includes companies based in Idaho, Montana and Washington state. That’s three of the Top Twenty companies for a relatively unpopulous corner of the nation.</p>
<p>If your company is mainly an investor-owned gas utility, or a relatively small investor-owned electric utility, or a non-utility owner of electric and gas assets in our industry, there’s no reason to be disappointed. The Top Twenty focuses on those companies that are mainly investor-owned electric utilities with revenues last year exceeding a billion dollars.</p>
<p>So here we offer a quick look only at these other kinds of companies in our industry. Among the larger gas utilities, New Jersey Resources, EQT, Piedmont Natural Gas, and Southwest Gas scored well against the six financial metrics. Among the smaller gas utilities, Delta Natural Gas, Chesapeake Utilities, South Jersey Industries, and RGC Resources scored well too. These companies typically have significant non-utility operations.</p>
<p>Among the smaller electric utilities, MGE Energy, El Paso Electric, Otter Tail Power, UGI, and Empire District Electric scored well against the metrics. Among the non-utility asset owners, Calpine Corporation scored well too.</p>
<p>Excluded from the rankings were companies that have been acquired or in the process of doing so. So you’ll not see in our lists Questar (Dominion Resources), ITC Holdings (Fortis), AGL Resources (Southern Company), Westar (Great Plains Energy), and TECO Energy (Emera). These five companies otherwise performed well against the metrics. </p>
<p>Let’s now turn back to the specific rankings for investor-owned electric utilities with revenues exceeding a billion dollars. How did each of the Top Twenty companies fare against each of the six financial metrics?</p>
<p>The first of the six financial metrics is the four-year average profit margin (income from operations divided by revenue). IDACORP took first place in this ranking. PPL Corporation, NextEra Energy, Public Service Enterprise Group, and OGE Energy were just behind IDACORP. See Figure 1.</p>
<p>The second of the six financial metrics is the four-year average dividend yield (dividends divided by closing price). Alliant Energy took first place in this ranking. PPL Corporation, Southern Company, Public Service Enterprise Group, and Consolidated Edison were just behind Alliant Energy. See Figure 2.</p>
<p>The third of the six financial metrics is the four-year average free cash flow (cash flow divided by revenue). NextEra Energy took first place in this ranking. Wisconsin Energy, Pinnacle West, IDACORP, and Consolidated Edison were just behind NextEra Energy. See Figure 3.</p>
<p>The fourth of the six financial metrics is the four-year average return on equity (net income divided by equity). AES Corporation took first place in this ranking. CMS Energy, Public Service Enterprise Group, Wisconsin Energy, and OGE Energy were just behind AES Corporation. See Figure 4.</p>
<p>The fifth of the six financial metrics is the four-year average return on assets (net income divided by total assets). Public Service Enterprise Group took first place in this ranking. OGE Energy, Wisconsin Energy, SCANA, and IDACORP were just behind Public Service Enterprise Group. See Figure 5.</p>
<p>The sixth of the six financial metrics is the four-year average sustainable growth (return on equity times the complement of the dividend payout ratio). AES Corporation took first place in this ranking. OGE Energy, Public Service Enterprise Group, NextEra Energy, and IDACORP were just behind AES Corporation. See Figure 6.</p>
<p>Figure 7 shows the overall list, ranking the Top Twenty in order.</p>
<p><em>Related: See <a href="https://www.fortnightly.com/fortnightly/2016/10/top-twenty-and-why-financial-strength-matters" target="_blank">“</a><span style="font-size: 13.008px;"><a href="https://www.fortnightly.com/fortnightly/2016/10/top-twenty-and-why-financial-strength-matters" target="_blank">Top Twenty, and Why Financial Strength Matters,”</a> October 2016, </span><span style="font-size: 13.008px;">by Steve Mitnick.</span></em></p>
</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/transactions">Transactions</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li><li class="taxonomy-term-reference-2"><a href="/article-categories/fortnightly-40-index">Fortnightly 40 Index</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-MEGA.jpg" width="875" height="536" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Tue, 27 Sep 2016 19:38:15 +0000meacott23426 at https://www.fortnightly.comDon't Cry for Utility Shareholders, Americahttps://www.fortnightly.com/fortnightly/2016/10/dont-cry-utility-shareholders-america
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Maybe Steve Huntoon Was Right</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Leonard Hyman and William Tilles</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Leonard Hyman</strong> is an economist and financial analyst specializing in the energy and regulated sectors. He was formerly head of utility equity research at Merrill Lynch, and senior advisor to investment banking at Salomon Smith Barney. At one point, he was on a NASA panel investigating the placement of nuclear power plants on the moon. He is author of <em>America’s Electric Utilities: Past, Present and Future. </em></p>
<p><strong>William Tilles</strong> is a senior industry advisor and speaker on energy and finance. He worked as a bond analyst and later headed equity utility research at Dean Witter Reynolds and then Smith Barney. He then became a portfolio manager at Angelo, Gordon &amp; Co. and later at Sandell Asset Management. For a time he ran the largest long/short equity book in the world.</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - October 2016</div></div></div><div class="field field-name-field-import-image field-type-image field-label-above"><div class="field-label">Image:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-COL6-Hyman.jpg" width="875" height="525" alt="“British-style incentive regulation would offer utilities the opportunity to take higher risks, in order to maintain returns.” – Leonard Hyman" title="“British-style incentive regulation would offer utilities the opportunity to take higher risks, in order to maintain returns.” – Leonard Hyman" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1610-COL6-fig1.jpg" width="1351" height="1261" alt="Figure 1 - Percent Total Return, Dividend Yield" title="Figure 1 - Percent Total Return, Dividend Yield" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-COL6-fig2.jpg" width="1354" height="1156" alt="Figure 2 - Percent Expected, Achieved Total Return" title="Figure 2 - Percent Expected, Achieved Total Return" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1610-COL6-fig3.jpg" width="1350" height="945" alt="Figure 3 - Expected Rate of Growth, Five-Year Periods, 1946-2015" title="Figure 3 - Expected Rate of Growth, Five-Year Periods, 1946-2015" /></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p>What do utility shareholders want? Answer: to earn a total return, dividends plus capital gains, at least commensurate with the risk incurred.</p>
<p>That is, to earn a return equal to, or in excess of, the cost of capital.</p>
<p>Did shareholders earn this in the past? And what do they require now?</p>
<p><a href="https://www.fortnightly.com/fortnightly/2016/08/nice-work-if-you-can-get-it">In a recent piece written for <i>Public Utilities Fortnightly</i><i style="font-size: 13.008px;">,</i></a><span style="font-size: 13.008px;"> Steve Huntoon didn’t directly answer those questions. Rather he concluded, much more elegantly, that whatever shareholders want, they get too much of it.</span><b style="font-size: 13.008px;"><sup>1</sup></b></p>
<p>Steve is a lawyer. So what does he know?</p>
<p>The authors of this column spent years on Wall Street, complaining that regulators did not provide investors with adequate returns. So we decided to check out the numbers. </p>
<p>Understand first, the market determines cost of capital. Regulators don’t.</p>
<p>Second, to determine expected return, investors and academics have lately begun to rely more on historical data.</p>
<p>They are taking into account the tendency of markets to revert to the mean. We will try to apply that technique to answer the questions.</p>
<p>Let’s cut to the chase. In the past century or more, globally, common stocks earned real returns of about five and a half percent to six and a half percent. Per year. Adjusted for inflation.</p>
<p>In the U.S., return on stocks have exceeded return on risk-free Treasury bonds. The equity risk premium was roughly two-point-four to five percentage points.</p>
<p>Recent Federal Reserve Bank monetary policy makes Treasuries a dubious benchmark. So we will use seasoned Baa corporate bonds instead.</p>
<p>Those bonds offered yields of one to two percentage points more than Treasuries in the past. And two to three percentage points more recently.</p>
<p>We estimate that investors, over the long term, expect that corporate bonds will earn two percentage points over Treasuries. And equities will earn five percentage points over Treasuries.</p>
<p>For a rule of thumb, equities will earn about three percentage points over corporate bond yields. Why bother with a rate case? Just use that handy rule of thumb.</p>
<p>Two additional points. Bond yields track inflationary expectations. So our calculation in current dollars indirectly takes inflation into account.</p>
<p>Also, over the post war period, utility stocks have performed at least as well as industrial stocks. So conclusions derived from the general market probably apply to them as well.</p>
<p>The first question is, what did utility investors earn? And was that good enough?</p>
<p>In the postwar period, investors earned just less than ten percent per year. That’s six and a half percent in real terms.</p>
<p>Dividends made up about sixty-three percent of this return. See Figure 1.</p>
<p>Our rough-and-ready formula calculated a required return of ten and a half percent per year. That’s six-point-nine percent in real terms. See Figure 2.</p>
<p>Utility stocks then earned in-line with long-term market expectations.</p>
<p>But utility stock prices exceeded their book value in fifty-six of the past seventy years. With sub-par pricing during energy and nuclear crises.</p>
<p>This indicates that utilities earned more than the cost of capital in most years.</p>
<p>Thus, utility investors earned an average market return, while taking a lower than average risk. Return probably exceeded the cost of capital.</p>
<p>The numbers tell us about anticipated growth. We define this as expected total return, minus dividend yield.</p>
<p>Over the postwar period, we calculate that investors expected growth of about four and a half percent per year. See Figure 3.</p>
<p>At the end of June 2016, corporate bonds yielded four and a half percent. Utility stocks yielded three-point-four percent.</p>
<p>This indicates, based on historical precedent, that equity investors want a seven and a half percent annual return. Three-point-four percent from dividends. Four-point-one percent from capital gains.</p>
<p>Is seven and a half percent, the number implied by Steve Huntoon, the nominal cost of equity capital? Imagine using that level of return in a utility rate case.</p>
<p>Sooner or later, regulators may see the gap between allowed returns and cost of capital. They might reduce returns.</p>
<p>Or regulators could impose British-style incentive regulation. It would offer utilities the opportunity to take higher risks, in order to maintain returns.</p>
<p>Either option could endanger dividends. That is the downside.</p>
<p>Income-starved investors are looking for means to meet their long-term obligations. They may accept even lower returns than the cost of equity capital we calculated.</p>
<p>The trick is for utilities to find ways to utilize that pool of capital.</p>
<p>Investors just want a better return on a safe investment than the one and a half percent they can get on ten-year Treasuries. Both utilities and electricity consumers might benefit from this trying financial situation.</p>
<p>And yes, it looks as if Steve Huntoon was right after all. Even if he is a lawyer.</p>
<h4><b style="font-size: 13.008px;">Endnotes:</b></h4>
<p>1. Steve Huntoon, <a href="http://www.fortnightly.com/fortnightly/2016/08/nice-work-if-you-can-get-it" target="_blank">“Nice Work If You Can Get It,”</a> <i>Public Utilities Fortnightly,</i> August 2016.</p>
<p>Robert D. Arnott and Peter L. Bernstein, “What Risk Premium Is Normal?” <i>Financial Analysts Journal</i>, March/April 2002, is a pioneering paper on the topic. It is comprehensive and comprehensible. For more recent data and analysis, see Martin Leibowitz, Andrew W. Lo, Robert C. Merton, Stephen A. Ross, and Jeremy Siegel, “Q Group Panel Discussion: Looking to the Future,” <i>Financial Analysts Journal</i>, July/August 2016.</p>
</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/stocks-equity-markets">Stocks / Equity Markets</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-COL6-Tilles.jpg" width="875" height="525" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Tue, 27 Sep 2016 19:24:41 +0000meacott23416 at https://www.fortnightly.comGetting Ready for Competition in Japanhttps://www.fortnightly.com/fortnightly/2016/10/getting-ready-competition-japan
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Lessons from Abroad</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Sean Gammons, Glenn George, Robert Southern, and Willis Geffert</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Sean Gammons</strong> is a director for NERA’s European Energy Group and specializes in economic and valuation issues in the power and gas industries. In his advisory work he specializes in market analysis and regulation for corporate and government clients.</p>
<p><strong>Glenn George</strong> is a senior vice president in NERA’s Global Energy, Environment, and Network Industries Practice, where he advises clients on the economics of electric power, natural gas, and related markets as they evolve in response to political, regulatory, and technological change. He has three decades of experience in the global energy sector as an engineer, policymaker, entrepreneur, investment banker, economic consultant, regulatory expert, and strategist. He advised the Government of Japan on the new electric power market rules which went into effect in April of this year. Dr. George holds an engineering degree and an MBA, both from Cornell University; a PhD from Harvard University, with a focus on regulatory economics; and is a registered Professional Engineer in the District of Columbia.</p>
<p><strong>Robert Southern</strong> is the head of NERA’s Australian offices. He has extensive experience in the provision of public policy, economic, financial, and related advisory services in Australia, Asia, and the Pacific region.</p>
<p><strong>Willis Geffert</strong> is a Senior Consultant in NERA’s Energy, Environment, and Network Industries Practice, specializing in sophisticated economic analysis and modeling to assist global energy clients in meeting the strategic, financial, and legal challenges of operating in restructured and regulated markets. He has extensive experience in European and North American power markets, including Ireland’s SEM, Russia, PJM, NYISO, CAISO, and New Brunswick in Canada.</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - October 2016</div></div></div><div class="field field-name-field-import-image field-type-image field-label-above"><div class="field-label">Image:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-fig1.jpg" width="1384" height="1151" alt="Figure 1 - Ownership of US Power Plants by Select Japanese Companies " title="Figure 1 - Ownership of US Power Plants by Select Japanese Companies " /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-Gammons.jpg" width="875" height="525" alt="“In Mexico, Japan has a preview, with perhaps a few years before reform reaches a similar stage in Japan.” – Sean Gammons" title="“In Mexico, Japan has a preview, with perhaps a few years before reform reaches a similar stage in Japan.” – Sean Gammons" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-fig2.jpg" width="1384" height="1083" alt="Figure 2 - IPP Capacity in Mexico Owned by Selected Japanese Companies" title="Figure 2 - IPP Capacity in Mexico Owned by Selected Japanese Companies" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-George.jpg" width="875" height="525" alt="“Regulators’ preferences for forms of competition may shift over time.” – Glenn George" title="“Regulators’ preferences for forms of competition may shift over time.” – Glenn George" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-fig3.jpg" width="1387" height="1135" alt="Figure 3 - The Three Strategies of Japanese Power Investors" title="Figure 3 - The Three Strategies of Japanese Power Investors" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-Southern.jpg" width="875" height="525" alt="“Gentailers in Australia, a combination of generators and retailers, have used their unique position in the value chain to manage risk.” – Robert Southern" title="“Gentailers in Australia, a combination of generators and retailers, have used their unique position in the value chain to manage risk.” – Robert Southern" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7-Geffert.jpg" width="875" height="525" alt="“Managing regulatory change and its attendant risks is a core competence.” – Willis Geffert" title="“Managing regulatory change and its attendant risks is a core competence.” – Willis Geffert" /></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p>Japan has a long history of direct foreign investment across a wide range of industries and sectors globally, especially natural resources and industrial goods.</p>
<p>The strategies underpinning those investments are many and varied. They include securing supplies of input materials, and decreasing the cost of labour and transportation to make goods more competitive. They also include gaining access to key technologies for potential redeployment in the home market.</p>
<p>There is yet another strategy underpinning Japanese direct foreign investment in overseas energy-sector assets. This includes gaining experience in restructured energy markets globally so as to thrive in the newly liberalized power market back home in Japan.</p>
<p>This article explores this phenomenon in the context of Japanese experience investing in the energy sector of the U.S., Mexico, the U.K., and Australia.</p>
<h4><b>U.S. Experience</b></h4>
<p><b>1. Background</b></p>
<p>In December 1980, the government of Japan passed a Foreign Exchange Control Law, which significantly reduced controls on capital outflows. Japanese companies previously made small direct investments in the U.S. This new law, combined with a stronger Yen, unleashed a wave of Japanese investments overseas, especially in the U.S.</p>
<p>Japanese companies invested in a number of sectors, including real estate, finance, entertainment, and industrial firms. Energy-sector investments were not far behind.</p>
<p><b>2. Investment Profile</b></p>
<p>Japanese companies have pursued a number of distinct strategies through their U.S. energy-sector investments over time. These include the following:</p>
<p>Renewables: As a result of incentives created by the Public Utility Regulatory Policies Act of 1978, Japanese companies initially invested in renewable assets. This preference has generally continued until the present.</p>
<p>Toyota Tsusho, for example, invested relatively early. In the late 1980s, twenty years before some of its competitors, Toyota Tsusho invested in a wind power development in the Mojave Desert in California. These wind and solar investments are now held in an entity called Eurus Energy, itself owned sixty percent by Toyota and forty percent by Tokyo Electric Power Company. <b><sup>1</sup></b></p>
<p>Sumitomo has joined Toyota and Tokyo Electric as a renewable-sector leader. Sumitomo has invested in about two thousand megawatts of wind and solar capacity, actually owning about a quarter of those plants.</p>
<p>Sumitomo’s portfolio includes investments in multiple high-profile projects, such as an eight hundred forty-five megawatt wind farm in Oregon, at one time the world’s largest. It also includes the five hundred fifty megawatt Desert Sunlight Solar Farm, the largest photovoltaic facility on U.S. federal land. <b><sup>2</sup></b></p>
<p>Independent Power Plants: With development of competitive power markets in the mid-1990s through the early-2000s, Japanese companies began investing in independent power plants, generally fossil-powered. For example, Osaka Gas has acquired minority interests in already operating thermal plants. That began with its purchase in 2004 of a forty percent interest in the eight hundred forty-five megawatt Gateway combined-cycle station in Texas.</p>
<p>While many Japanese companies have followed the Osaka Gas model of investing in existing power plants, some have invested in new capacity. Marubeni, for example, was an early participant, pre-financial close, in a seven hundred twenty-five megawatt combined-cycle plant currently under construction in Maryland.</p>
<p>J-Power generally owns all, or at least a majority, of its U.S. generation assets. This is in contrast to the Japanese trading companies and utilities, which tend to hold minority interests.</p>
<p>Japanese companies have invested across the U.S., gaining exposure to various restructured and regulated markets.</p>
<p>Figure 1 summarizes the current U.S. power plant ownership of several large Japanese companies.</p>
<p>Operation and Maintenance: Overall, most Japanese companies do not operate the plants in which they have invested. <b><sup>3</sup></b> Nonetheless, a few companies have made power-plant services an important part of their business. <b><sup>4</sup></b></p>
<p>In 2001, for example, Itochu purchased Dynegy’s operation and maintenance services company, North American Energy Services. The company was the largest third-party provider of those services to independent power plants. Then, in 2003, Itochu invested in Tyr Energy, now a generation company. At that time, it focused on management services to the owners of merchant power plants. <b><sup>5</sup></b> Marubeni also acquired the PIC Group, a generation services company. <b><sup>6</sup></b></p>
<p>Nuclear: Japanese companies invested in the U.S. nuclear sector. This was due to the advent of the nuclear renaissance beginning in the early-2000s, with an added impetus from the nuclear power incentives in the Energy Policy Act of 2005.</p>
<p>Mitsubishi provides various nuclear services, and has developed an advanced reactor design, the advanced pressurized water reactor. <b><sup>7</sup></b> Mitsubishi also supplied replacement steam generators to the San Onofre Nuclear Generating Station, before it was permanently shut down in 2013 due to tube leaks in the steam generators.</p>
<p>Toshiba purchased Westinghouse, the developer of the AP 1000 nuclear technology. Four such units are currently under construction in the U.S. and many more are under construction in China. Marubeni owns Energy U.S.A., Inc., a uranium trader and a provider of various consulting, financial, and equipment services to nuclear plants and uranium companies.</p>
<p>Natural Gas Value Chain<b>:</b> Japan is almost completely dependent on gas-fired generation, post-Fukushima. Following the accident, nuclear plants shut down throughout Japan, perhaps permanently, and thus a number of players have moved up the natural-gas value chain. They have moved from liquefied natural gas export terminals, up to exploration and production assets, in an effort to secure supplies.</p>
<p>For example, Mitsubishi, Mitsui, Nippon Yusen, Tokyo Gas, Sumitomo, and Osaka Gas participate in new liquefied natural gas export projects in the U.S. These include the Cameron (Louisiana), Freeport (Texas), and Cove Point (Maryland) terminals. Several Japanese companies are considering this export potential in British Columbia, as well.</p>
<p>On the exploration and production side, Mitsui has invested in Marcellus shale gas in Pennsylvania, and in Eagle Ford shale oil and gas in Texas. Osaka Gas, Marubeni, and Tokyo Gas also participate in Eagle Ford projects. Other U.S. shale investments include Sumitomo in Wolfcamp, Marubeni in Niobrara, and Tokyo Gas in Barnett.</p>
<p>Next Frontier Technologies: Japan has an eye on development of energy storage, distributed generation, small-scale renewables, microgrids, and related technologies. Some Japanese companies have begun to focus on these elements in the value chain.</p>
<p>Mitsui, which has just a small presence in U.S. independent power plants, recently invested in Stem, Inc. It is a company focusing on distributed services, including storage, demand response, and advanced information technology controls.</p>
<p><b>3. U.S. Lessons Learned</b></p>
<p>Although Japanese investment in the U.S. energy sector continues to unfold and evolve, a few general lessons can be discerned. Sometimes the next best thing fizzles before the investment pays off, with new nuclear power in the U.S. a prime example of this phenomenon.</p>
<p>Some countries, like the U.S. – due to their devolved or federal political structure – are not a single market. Rather, they are a series of lightly-connected regional or local markets, each with a very distinctive character. One investment strategy clearly does not fit all regions or sectors, even in a single country.</p>
<p>From the perspective of learning how liberalized energy markets function, some of the most promising strategies have been little-pursued to date. These include investing in regulated utility companies in order to gain direct experience. These strategies may be ripe for more active deployment.</p>
<h4><b>Mexico Experience</b></h4>
<p><b>1. Background</b></p>
<p>Japanese companies have invested in the Mexican power sector since the Law of Public Electricity Service was reformed in 1992. This opened up the sector to private capital investments. In fact, the Japanese trading company Sojitz was a minority participant in the first independent power plant bid following that reform, awarded in 1997. Japanese companies were also among the first successful bidders in build-lease-transfer projects under the new legal regime.</p>
<p>Prior to the 1992 legislation, Comisión Federal de Electricidad, or CFE, owned, controlled, and operated basically the entire electricity sector, as a state-owned vertically-integrated monopoly. <b><sup>8</sup></b> The 1992 legislation opened up the sector to private investment, under multiple modalities.</p>
<p>These include independent power plants, build-lease-transfer projects, co-generation and self-supply, <b><sup>9</sup></b> small power plants, and import and export permits. CFE’s dominance, however, continued.</p>
<p>CFE remained in charge of system planning. It also remained involved as the off-taker in standard contracts issued to independent plants. In addition, it is the lessee of the build-lease-transfer projects, which are transferred to it after the lease.</p>
<p>Large customers, however, could purchase power directly from privately-owned self-supply or co-generation plants. While further reforms of the sector proposed in the 1990s ultimately failed, Mexico enacted a new Electricity Law in 2014.</p>
<p>Highlights of this latest cycle of reform include the following:</p>
<ul>
<li><strong>Splitting Up CFE Vertically</strong>: The wires business with separate transmission and distribution subsidiaries will be independent from generation. This, in turn, will be separate from the retail business. <b><sup>10</sup></b> An independent system operator has already been formed.</li>
<li><strong>Splitting Up CFE Horizontally</strong>: Its generation assets will be split into several generating company subsidiaries. Their mission is to operate as independent, profit-maximizing concerns.</li>
<li><strong>Opening the Market </strong>to Competitive Retail Suppliers.</li>
<li><strong>Establishing Competitive Mid- and Long-Term Auctions</strong> to Procure Energy, Capacity, and Clean Energy Certificates. <b><sup>11</sup></b> Also, establishing a wholesale power market,<b> </b>with a day-ahead and real-time market, as well as a capacity market. <b><sup>12</sup></b></li>
</ul>
<p><b>2. Investment Profile</b></p>
<p>Mexico has been and remains a high-growth market for electric power and other forms of energy. From 1992 to 2013, electricity consumption grew one hundred twenty-two percent, contrasted with twenty percent growth in Japan over that same period.</p>
<p>From 2013 to 2029, electricity consumption is expected to grow by about an additional sixty percent, or about three percent per year. <b><sup>13</sup></b> Projected growth is somewhat slower than historical levels. It is, however, quite robust when compared with the U.S., where consumption is expected to grow about half a percent per annum during the same period. <b><sup>14</sup></b></p>
<p>Further, the generation mix in Mexico is rapidly changing. It is transitioning from a system traditionally dominated by nuclear, hydro, coal, and oil or dual-fueled steam turbines. The system is now shifting to one dominated by combined-cycle units and renewables. The renewables include wind, solar, and hydro. The system may also transition to additional nuclear.</p>
<p>Significant steam turbine and coal capacity is scheduled to retire in the coming years. In sum, significant new capacity will be required. Japanese investments have provided a significant portion of new capacity in Mexico over the last two decades, through various strategies: <b><sup>15</sup></b></p>
<p>Developing Independent Power Producers: Whether as minority or majority investors, Japanese companies have won numerous competitive solicitations by CFE to build, own, and operate independent power plants in Mexico. These plants come with twenty-five year contracts with CFE as off-taker, where afterwards the companies are free to sell their plants’ output to third parties.<b><sup>16</sup></b></p>
<p>Mitsubishi, for example, has won multiple independent power producer solicitations, partnering with Kyushu Electric Power or with Électricité de France. And Sojitz participated and won as a minority partner in an independent producer solicitation.</p>
<p>Investing in Independent Power Producers Already Awarded:<b> </b>Several Japanese companies have employed this strategy<b>, </b>including Chubu Gas, Mitsui, Tokyo Gas, and Tohoku Electric Power. So far, all such plants owned by Japanese companies are combined-cycle units.</p>
<p>Figure 2 shows current ownership of independent power producers in Mexico by company. <b><sup>17</sup></b></p>
<p>Build Lease Transfer Projects:<b> </b>In addition to offering competitive bids for independent producers,<b> </b>CFE<b> </b>bid out several other projects on a build lease transfer basis. In this arrangement, the winning bidder finances and builds the plant. It then leases the plant to CFE for long-term operation and transfers ownership when the lease expires. Mitsubishi has frequently been successful in these bids.</p>
<p>Self-Supply and Co-Generation Plants:<b> </b>Under this scheme, investors obtain a permit from Mexico’s Energy Regulatory Commission to build power plants. Then they sell their output under contract directly to large customers that became their partners.</p>
<p>This scheme has grown rapidly since the opening up of the sector in 1992. Participating Japanese companies include Mitsui and Mitsubishi, with both companies having built wind projects.</p>
<p>Variation on the Self-Supply Strategy: In a variation on the self-supply strategy, investors can size their independent power plants larger than the CFE off-take contract, then sell the residual to large customers. Tokyo Gas purchased a minority stake in a provider that follows this strategy.</p>
<p>Under the 2014 law, power plants will be built under generator permits and may sell their products under different schemes. Japanese companies have not yet invested under the new law.</p>
<p><b>3. Mexico Lessons Learned</b></p>
<p>Japanese companies investing in Mexico are likely to learn more valuable lessons to bring back to Japan during the coming years than were learned in the last two decades. In Mexico, Japan has a preview of how a new power market design is implemented. It’s perhaps a few years before reform reaches a similar stage in Japan.</p>
<p>Japanese companies will see the challenges markets can have in their early years. Potential learning opportunities include the following:</p>
<p>Observing: Even companies which only maintain existing contracts under the old rules can still learn from their front row seat to the new market. <b><sup>18</sup></b></p>
<p>Participating in Competitive Procurement Mechanisms: In Japan, the new grid operator, the Organization for Cross-Regional Coordination of Transmission Operators, may run capacity auctions. Long-term auctions are already occurring in Mexico. Medium-term auctions may follow.</p>
<p>Building Merchant Capacity: Of course, there are significant risks in this strategy, not the least because there is currently a glut of capacity in Mexico. As older, less efficient units retire, a need for additional capacity may develop.</p>
<p>A company may decide not to build. Exploring the option through price forecasting, risk assessment, and contractual mechanisms, however, would provide valuable experience. This could be redeployed back in the home market.</p>
<p>Becoming a Competitive Retail Supplier: Learning how to become a competitive retail supplier in a market like Mexico could create bona fide capabilities to support new lines of business over time in Japan. This approach is not without its risks.</p>
<h4><b>U.K. Experience</b></h4>
<p><b>1. Background</b></p>
<p>The U.K. shares some similarities with Japan in terms of overall economic conditions. It is a large island state with an advanced industrial economy. The economy is highly dependent on the availability of a secure and affordable electricity supply.</p>
<p>The big underlying difference between the two countries is the availability of indigenous fuel resources. The U.K. is fortunate in having access to domestic coal, gas, and oil resources, unlike Japan.</p>
<p>In terms of the organization of the power sector, the key difference to date has been the U.K.’s much greater appetite for competition. Along with a few other markets around the world, the U.K. has been at the forefront of the development of competitive electric power markets. These other markets include Norway, New Zealand, and those U.S. states that have unbundled their electricity sector.</p>
<p>Indeed, the U.K. has arguably gone further than any other market towards the development of full and effective retail competition. The process of development of competition in the U.K. has been far from smooth and the results are contested. At a high level, two phases are discernible:</p>
<p>An early period extending from 1989-90 to about 2005 of deregulation and increasing reliance on competition and market prices (“competition in the market”) as a means of promoting efficiency and security of supply, whether in generation, retail or low carbon investment. This period was characterised by dramatic shifts in market structure and falling prices, partly as a result of benign international fuel markets.</p>
<p>A later period extending from about 2005 to the present day of growing doubts over the efficacy of free markets (in particular for decarbonisation) and a trend of re-regulation, whether in the form of an explicit auction market for generation capacity, or increasing regulatory interventions in retail, or the move to long-term contracts, known as Contract for Difference – Feed-in Tariff (CfD-FiT), for low carbon investments. This period has been characterised by a much more stable market structure, a move to greater use of centralized procurement (“competition for the market”), and rising market prices, partly as a result of rising international fuel prices and partly due to increased costs of environmental regulation.</p>
<p>In summary, the initial burst of enthusiasm for competition in the U.K. has given way to a new round of regulatory intervention that is changing the nature of competition, and possibly threatens the sustainability of a competitive electricity market. Legacy assets, whether owned by the U.K.’s so-called “Big 6” energy companies or independents, have generally suffered as a result of this switch in policy-making – margins have been squeezed and heightened regulatory risk has driven down asset values. New opportunities have arisen, however, in particular for investments in low carbon generation under long-term Contract for Difference – Feed-in Tariffs that offer the prospect of returns that are shielded from the vicissitudes of regulatory change. </p>
<p>It is in this challenging environment that Japanese investment in the U.K. power sector has been made.</p>
<p><b>2. Investment Profile</b></p>
<p>Cumulatively, Japanese investment in the U.K. power sector (in operating assets and projects in development) totals approximately sixteen gigawatts of plant capacity. See Figure 3.</p>
<p>Japanese investors have employed three main strategies in the U.K. power market to date: </p>
<p>Diversified Merchant Independent Power Producer: Mitsui has built minority stakes in operational largely-merchant assets in partnership with an incumbent independent power producer. Between 2004 and 2005, Mitsui acquired stakes in approximately fourteen hundred megawatts of gas plant and twenty-one hundred megawatts of pumped storage. In 2007, Mitsui swapped shares with their partner for a stake in over a thousand megawatts of coal, gas, and oil plants. Subsequently, part of the portfolio has been retired or has been tagged for retirement. In April 2016 Mitsui put its remaining stake up for sale.</p>
<p>Quasi-Regulated Offshore Wind: Marubeni has participated in the development of offshore wind farms in the U.K. via minority stakes. Its first investment, in 2011, in partnership with the Development Bank of Japan and others, was in the Gunfleet Sands wind farm, operational at around one hundred seventy megawatts. This was supported by the Renewables Obligation green certificate system that pre-dated the new Contract for Difference – Feed-in Tariffs contracts.</p>
<p>It followed up in 2014 with the acquisition of a stake in the Westermost Rough wind farm, with commissioning of over two hundred megawatts taking place the following year. This was also supported by the Renewables Obligation. Through its minority stake in Mainstream Renewable Power Ltd., which it acquired in 2013, Marubeni also has interests in the development of the Neart na Gaoithe wind farm, where it is also one of the construction contractors. It is off the shore of Scotland, with capacity of four hundred fifty megawatts. It is due to be commissioned in 2020 under a Contract for Difference – Feed-in Tarriffs contract.</p>
<p>Quasi-Regulated, New-Build Nuclear: Initially the domain of Big 6 energy companies, <b><sup>19</sup></b> two of the three consortia of new nuclear developers in the U.K. are now majority Japanese-owned. Horizon Nuclear Power was purchased by Hitachi from RWE and E.On. It plans to build two plants of three thousand megawatts by 2026. In partnership with Engie as part of NuGen, Toshiba is developing a thirty-six hundred megawatt plant, slated to come online in 2027. All these projects are targeting long-term Contract for Difference – Feed-in Tarriffs contracts.</p>
<p><b>3. U.K. Lessons Learned</b></p>
<p>The Japanese investors who have invested in the U.K. power sector have learned a great deal about investing in liberalized power markets. This experience will position them well to participate in the development of competition in Japan.</p>
<p>For example, Mitsui now has a wealth of expertise in power trading and the value creation opportunities it offers when allied with optimization of physical generation. And Marubeni, Hitachi, and Toshiba have developed regulatory expertise in how to organize low-carbon generation investment in a liberalized environment with changing regulation.</p>
<p>More generally, several lessons can be distilled from experience of the U.K power sector:</p>
<p>Competition takes different forms (“competition in the market” versus “competition for the market”) and the regulatory authorities’ preferences for one over the other may shift over time.</p>
<p>Shifts in underlying fundamentals, whether in terms of fuel prices or the availability of technology or environmental regulation, are likely to be correlated with calls for reform of regulatory arrangements. </p>
<p>Regulatory constraints are at least as important as market fundamentals in creating investment incentives and in determining the risks and rewards associated with a given investment. </p>
<p>Merchant assets are particularly exposed to regulatory change as compared to long-term contracted assets.</p>
<h4><b>Australia Experience</b></h4>
<p><b>1. Background</b></p>
<p>Over the past decade, Japan has consistently rated as the third-largest investor in Australia, measured by value of foreign direct investment. During this period, a substantial proportion of that investment has been in the energy sector. This includes approximately eleven percent in coal, oil, and natural gas.</p>
<p>Japanese investors have faced a number of very significant changes over time in the regulation and operation of the Australian National Electricity Market. These dynamics have meant that Japanese and other investors have needed to manage a range of factors, including the following: </p>
<p>Regulatory Uncertainty:<b> </b>The past decade has seen the establishment of the Australian Energy Regulator. It has seen the transfer of regulatory responsibility from state governments to the federal government. In addition, it has seen changes to the national electricity rules, and the regulatory framework under which they operate. This process entailed disruption and growing pains as utilities learned to deal with a new and different regulator.</p>
<p>Introduction of Full Retail Competition: Full retail competition has been gradually introduced across the National Electricity Market. Victoria and New South Wales initially moved to full retail competition in the early 2000s. All other states introduced full retail competition by 2014.</p>
<p>Change in National Energy Market Governance Arrangements: In the early 2000s there was substantial change to the governance arrangements of the originally established governing bodies. These include the National Electricity Code Administrator and National Electricity Market Management Company Limited.</p>
<p>The Australian Energy Market Commission was established as the rule-maker and policy adviser on the National Energy Market. The Australian Energy Regulator was formed as the national regulator. Later in 2009, the Australian Energy Market Operator was established to oversee operation of the electricity and gas markets in Australia.</p>
<p>Change in Industry Structure and Ownership: The electricity industry in Australia was, by and large, vertically separated in the 1990s. There has been an increasing trend of vertical integration in the competitive generation and retail segments of the market.</p>
<p>Gentailers emerged, which are a combination of generators and retailers.</p>
<p>Gentailers have used their unique position in the value chain to manage risk flowing from price volatility in the wholesale energy market. This has not necessarily resulted in decreased competition. There has been a trend of new entrant retailers or generators entering as gentailers.</p>
<p><b>2. Investment Profile</b></p>
<p>The majority of Japanese investment in the Australian energy market has been in the natural gas and liquefied natural gas processing sectors. There has also been substantial investment in electricity generation and electricity network assets.</p>
<p>The most prominent of the Japanese firms driving this investment is Marubeni. There has, however, also been strong investment from Osaka Gas and Tokyo Electric Power.</p>
<p>As the Australian energy industry moves toward renewable technologies, it appears that these firms are also targeting investments in renewable generation assets. Some major areas of investment include the following:</p>
<p>Traditional Electricity Generation:<b> </b>Marubeni through Marubeni Power Systems and Energy Infrastructure Investments <b><sup>20</sup></b> has invested in the Smithfield Energy Facility. They are one hundred sixty megawatts, natural gas. Marubeni has also invested in the Millmerran Power Station. They are eight hundred forty megawatts, coal-fired.</p>
<p>In addition, Marubeni has invested in Daandine Power Station. They are twenty-seven megawatts, coal steam gas. Lastly, Marubeni has invested in the Mt. Isa X41 Power Station. They are thirty-two megawatts, natural gas.</p>
<p>Renewable Generation: Marubeni, Osaka Gas, and Tokyo Electric Power have pursued investment predominantly in wind farm generation, with Marubeni acquiring a stake in the Hallet 4 Wind Farm in 2009. They are one hundred thirty-two megawatts.</p>
<p>Tokyo Electric Power <b><sup>21</sup></b> invested in the Hallet 5 Wind Farm. They are nearly fifty-three megawatts. Coonooer Bridge is nearly twenty megawatts.</p>
<p>Electricity Network Infrastructure: Japanese investment in Australia’s electricity network infrastructure has been limited to the acquisition of interstate interconnectors. Marubeni acquired the Murraylink Interconnector.</p>
<p>This connects Victoria and South Australia, with capacity of two hundred twenty megawatts. They also inquired the Directlink Interconnector in 2008. This connects Queensland and New South Wales, with capacity of one hundred eighty megawatts.</p>
<p>Investment in Gas: There has been substantial Japanese investment in the Australian gas industry. This has spanned large investments in liquefied natural gas, including INPEX Corporation’s investment in the Icthys gas project investment to pipeline infrastructure.</p>
<p>It also includes investments by Marubeni in the Telfer, Nifty Lateral, and Bonaparte pipelines. Lastly, it includes investments in the AllGas Gas Distribution network.</p>
<p><b>3. Australia Lessons Learned</b></p>
<p>Lessons learned in Australia are in many respects similar to those in the other geographies we have addressed:</p>
<p>Managing regulatory change and its attendant risks is a core competence: This has certainly been the case in Australia, as well as the U.S., U.K., and Mexico. It will no doubt apply in Japan as well.</p>
<p>Stick with a good thing when you find it.<b> </b>To date, the majority of Japanese investment in the Australian energy sector has been in gas or liquefied natural gas projects and electricity generation assets. These are areas which may see further expansion and privatization activities in the Australian market. <b><sup>22</sup></b></p>
<p>Cross-pollination of skills is a good thing. As noted, several companies such as Marubeni have made investments in widely different assets across the electric power value chain. They have also invested in a wide variety of upstream and downstream bits of energy infrastructure.</p>
<p>The skills learned from one set of assets can typically be transferred to other lines of business. This is through standardized policies and procedures, seconded staff, executive rotations, and the like. While synergy is an overused term, it might rightly apply to managing a business across newly competitive energy markets.</p>
<h4><b>Implications for Japanese Companies</b></h4>
<p>What does all this mean for Japanese companies as they prepare for increased competition in Japan? The lessons learned draw on several decades of experience and many billions of dollars in investment worldwide.</p>
<p>They provide extremely valuable guidance for success in newly-liberalized energy markets almost anywhere, including Japan. But they are merely suggestive and not exhaustive or definitive.</p>
<p>Beyond that, they do not constitute a full-fledged business strategy for re-entering the home market, building new lines of business, and successfully competing for customers and profits. </p>
<p>These issues will be addressed in the third and final installment in this series of articles about Japan, in a forthcoming issue of <i>Public Utilities Fortnightly</i>.</p>
<h4><b>Endnotes:</b></h4>
<p>1. This is one of many examples where multiple Japanese companies partner in U.S. energy investments.</p>
<p>2. Now it appears that Sumitomo has agreed to sell its stake in Desert Sunlight.</p>
<p>3. There are, however, exceptions. Mitsubishi, through its Diamond Generation subsidiary, and Sumitomo, through its Perennial Power generation subsidiary, operate some of the plants they own.</p>
<p>4. The operation and maintenance business tends to be less volatile than the independent power producer business, especially when the independent power plants are partly or fully operated on a merchant basis.</p>
<p>5. It was not until 2006 that Itochu began to acquire U.S. independent power producers, through Tyr Energy.</p>
<p>6. While these operations and maintenance providers tend to be independent from their parent companies, we note that Itochu’s Tyr Energy sometimes partners with its North American Energy Services subsidiary on the operation of Tyr’s plants.</p>
<p>7. No Mitsubishi advanced pressurized water reactors are currently under construction or in operation.</p>
<p>8. The one other utility in Mexico, Luz y Fuerza del Centro serving the Mexico City area, also state-owned, was closed down by the government in 2009 and subsequently absorbed into CFE.</p>
<p>9. Self-supply in this context refers either to power plants co-located with load, or to plants located-remotely that contract with a load.</p>
<p>10. Retail rates will be regulated for basic service customers. Transmission and distribution subsidiaries will remain regulated monopolies.</p>
<p>11. At least so far, the long-term auctions are for the basic supplier to procure energy, capacity, and clean energy certificates. At present, CFE is the only basic supplier, but the law allows for others. Clean energy certificates are produced by renewable plants. Suppliers are required to obtain certificates annually in a pre-determined percentage of their load, starting with five percent in 2018. Importantly, all renewables are on a level playing field. For example, there is no carve-out for solar, as there is in certain other jurisdictions.</p>
<p>12. Capacity is produced basically by a plant being available to produce and deliver energy during ex-post critical hours.</p>
<p>13. NERA analysis of the 2015-2029 PRODESEN (the Mexican government’s program of development for the national electricity sector).</p>
<p>14. NERA analysis of the <i>2016 Annual Energy Outlook</i> of the U.S. Energy Information Agency. Globally, the current trend, which is expected to continue, is for historically slow growth in electricity consumption, due to continued increases in energy efficiency.</p>
<p>15. While this section focuses on the electricity sector, Japanese companies such as Mitsui have also invested in the Mexican natural gas sector, pipelines, liquefied natural gas regasification terminals, and liquefied natural gas long-term supply agreements, where CFE has been the off-taker.</p>
<p>16. But for the recent reforms of the power sector, the only options for independent power producers after contract expiration would have been be to sell directly to large consumers, or to sell to CFE. With the reforms, the producers will now have additional options when their contracts expire. They can also sell to competitive suppliers or to marketers, participate in medium term auctions, or try the spot market. The first independent power producer contracts with CFE will expire in 2025.</p>
<p>17. This chart does not include investments under other modalities, including build-lease-transfer or self-supply arrangements.</p>
<p class="p10">18. Investments made before the 2014 law are grandfathered under those arrangements.</p>
<p>19. The Big Six includes Centrica, Scottish and Southern Energy, Scottish Power (Iberdrola), RWE npower, E.On, and Électricité de France.</p>
<p>20. Energy Infrastructure Investments is a joint venture between Marubeni (just under fifty percent), Osaka Gas (just over thirty percent), and APA Group (just under twenty percent). EII holds a number of assets in its portfolio including electricity transmission, gas pipeline, gas generation, and wind generation.</p>
<p>21. Tokyo Electric Power has made investments in Australia through Eurus Energy, a joint venture with Toyota Tsusho (forty percent Tokyo Electric, sixty percent Toyota Tsusho).</p>
<p>22. It is expected that Endeavour Energy and Western Power will be privatized in some form over the next few years.</p>
<p class="p11"> </p>
<p class="p12"><em>Lead image Earth images: NASA, Blue Marble, Visible Earth</em></p>
</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/stocks-equity-markets">Stocks / Equity Markets</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA7.jpg" width="875" height="525" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Mon, 26 Sep 2016 15:41:41 +0000meacott23356 at https://www.fortnightly.comTom Fanning: Leadership Lyceum Podcast Summary https://www.fortnightly.com/fortnightly/2016/10/tom-fanning-leadership-lyceum-podcast-summary
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Conversation with a Prime Mover: Tom Fanning, Chairman and CEO of Southern Company</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Tom Fanning, with Tom Linquist</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Tom Linquist</strong> is a partner at a leading global executive search firm. He is an expert on executive assessment and leadership development, and can be reached at <a href="mailto:Linquist@LeadershipLyceum.com">Linquist@LeadershipLyceum.com</a>. <span style="font-size: 13.008px;">To hear the full interview, please visit the podcast </span><a href="https://itunes.apple.com/us/podcast/leadership-lyceum-ceos-virtual/id1118682019?mt=2" style="font-size: 13.008px;" target="_blank">Leadership Lyceum: A CEO’s Virtual Mentor</a><span style="font-size: 13.008px;"> at Apple iTunes.</span></p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - October 2016</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p><em>To hear the full interview and more about Fanning leading cybersecurity efforts for the industry and his chairmanship at EEI, </em><em style="font-size: 13.008px;">visit the podcast <a href="https://itunes.apple.com/us/podcast/leadership-lyceum-ceos-virtual/id1118682019?mt=2" target="_blank">Leadership Lyceum: A CEO’s Virtual Mentor</a> at Apple iTunes, or:</em></p>
<p><em style="font-size: 13.008px;">Listen to part 1</em></p>
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<p style="font-size: 13.008px;"><em style="font-size: 13.008px;">Listen to part 2</em></p>
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<p class="p4">If you have heard the name Southern Company or Tom Fanning a lot recently, you might casually dismiss it as a plain old, run-of-the-mill Baader-Meinhof Phenomenon. If you haven’t heard of this type of cognitive bias before, I expect you will hear it a lot from now on.</p>
<p>On the other hand, it may be because Tom Fanning and Southern Company have been busy. Tom has been very active in industry leadership. He is serving as EEI chairman this year and is chairman of the Electricity Sub-Sector Coordinating Council, the principal liaison between the electric sector and the federal government for coordinating efforts against cyber threats and physical terrorism. Moreover, Southern Company, under Tom’s leadership, is taking positions across a curiously wide spectrum of the nation’s energy value chain.</p>
<p>Our series Executive Profiles and Perspectives will focus on corporate and industry strategy and trends from the direct vantage point of key industry leaders. I joined Tom Fanning in his office in Atlanta for this conversation on August 10, 2016. Our discussion revealed his rationale for Southern’s investment activities and his vision and leadership in actuating it.</p>
<p>Southern Company has been building and buying in key areas including nuclear, renewables, natural gas, clean coal, and energy efficiency. If Southern’s sweeping strategic activity raises questions in the observance, Tom’s answers will both illuminate Southern’s vision and illustrate the characteristics of his leadership.</p>
<p>Tom operates as a leader very much in accord with the ideals of the business that he presides over – always on, available, and operating at a high capacity factor. Many of the readership knows Tom Fanning as an active public speaker. To hear him from the podium is to sense him intellectually. To sit with him in conversation is to sense his qualities viscerally.</p>
<p>He possesses the leadership traits of a prime mover. In the Ayn Rand and Edwin Locke sense of the term, he demonstrates an unquenchably active mind, a resolute passion for work, a love of ability in others, and an independent vision with brimming self-confidence.</p>
<p>We sorted through what Tom calls his all of the above approach by addressing Southern’s areas of investment one by one.</p>
<h4><b>Nuclear</b></h4>
<p>Tom’s nuclear strategy is dependent upon, and a direct function of, national energy policy. “We believe that there are lots of objective functions we are going to have to hit,” Tom explains.</p>
<p>“I always say clean, safe, reliable, affordable. One of the objective functions that goes in line with the ‘clean’ aspect is nuclear. We have a policy with carbon, at least in this administration, where they want to be low-carbon to no-carbon by 2050. Okay. So you tell me the rules, I’ll tell you the best way to get there. We have been working on our own plan to do that. We think we are doing that in an exceptional way by building new nuclear. Vogtle 3 and 4 is going to be one of the successful mega projects in modern American industrial history.”</p>
<p>Tom is taking Southern beyond the development of nuclear capacity. The company is going further by investing research and development dollars in next-generation nuclear. Indeed, Southern recently received a multi-year, forty-million-dollar Energy Department grant for exploration and development of molten chloride fast reactors.</p>
<p>“We are advancing the study of what might be the nuclear option in the future,” Fanning notes.</p>
<p>Tom summarizes, “That is our nuclear branch. In my view, because it is large central station power, base load, no carbon, it must be one of the dominant solutions.”</p>
<h4><b>Renewables</b></h4>
<p>Southern Company has one of the largest voluntary solar portfolios of any investor-owned utility in the U.S. As of early July, Southern owned more than sixteen hundred megawatts of solar generating capacity at twenty-six facilities across six states.</p>
<p>“We have been one of the biggest owners of solar generation in America,” notes Fanning.</p>
<p>“I am a believer in that technology and its relevance to the southeast. We are now moving to more and more wind.”</p>
<p>As Tom explained, he just announced on his latest earnings call an increase in renewables investment at Southern Power to $4.5 billion for 2016, up from $2.4 billion forecasted earlier this year. He calls it “aggressive growth and a pivot towards more wind.”</p>
<h4><b>Natural Gas</b></h4>
<p>According to Tom, although renewables are one of the company’s dominant solutions, its intermittency issues require that Southern deploy more combustion turbines.</p>
<p>“We are limited in the amount of new base load we could build,” explains Fanning.</p>
<p>“Nuclear is such a limited set and coal is so challenged here in the United States, that the old workhorses of base load generation are becoming less important. Now natural gas will step into that void,” posits Fanning.</p>
<p>“You will have combined cycle units providing base load support, what once had been nuclear and coal. For all those reasons, we believe that natural gas is going to remain another dominant solution for at least the next, you tell me, thirty-five years.”</p>
<p>“So, combined cycle combustion turbines, to support renewables – bam,” Fanning exclaims.</p>
<p>“Natural gas must be a really important player in the future. We have had energy policy in the past set on scarcity, and now we can set energy policy based on abundance, [as a result of] the miracle that is fracking and directional drilling.</p>
<p>“We have made a big bet in natural gas infrastructure. We bought the nation’s largest LDC – AGL Resources – now called Southern Company Gas. We just announced our venture with Kinder Morgan for fifty percent of Southern Natural Gas pipeline system, the most important interstate pipeline in the southeast. And there is more to come there.”</p>
<h4><b>Clean Coal</b></h4>
<p>Tom’s bold independent vision has led Southern to act as an industry vanguard for new technologies.</p>
<p>“It is clear that coal is in an enormous transition here in the United States,” notes Fanning.</p>
<p>“The plant we are building at Kemper County; twenty-first century coal is the way we describe it. Our technology, that we developed along with Kellogg Brown and Root, will be able to consume coal and produce less carbon than even natural gas. It is sixty-five percent carbon dioxide removal. While I don’t know how many more of these [plants] will be built in the United States, there is a lot of demand in Eastern Europe and Asia. We have signed agreements in Serbia, Romania, Poland, South Korea and China in which this technology hopefully will be built. We’ve got to get Kemper up and running. We are right on the doorstep of doing that.”</p>
<p>“We also run the nation’s, and now the world’s, carbon capture research center at Wilsonville, Alabama. We also have the only live production of pre- and post-combustion carbon capture. Pre-combustion at Kemper County. Post-combustion at Plant Barry. We are doing a ton of work trying to figure out ways to use coal responsibly and that is not just a Southern Company issue. It is not only a domestic issue. This is an international issue. There is nobody doing more than we are around the world.”</p>
<h4><b>Energy Efficiency</b></h4>
<p>Recently, Fanning has been getting his own house in order with respect to energy efficiency technologies. </p>
<p>“The cleanest kilowatt hour is the one you don’t consume,” reminds Fanning.</p>
<p>“We have been a leader in the United States in exploring strategic relationships with people like Tesla. Not only for the automotive side but also the battery storage side. In fact, now I have Tesla Powerwall technology in my house. It was put up yesterday. I have solar panels on my roof. They were installed a week ago.”</p>
<p>“We are deploying ten thousand Nest thermostats. We are giving them away, if you go on time-of-use pricing with Georgia Power.”</p>
<p>But the adaptive thermostat is not Southern’s view of the end game for the technology. Their view goes farther.</p>
<p>“With the advent of smart chip technology, and the smart home, we really believe that something like the Nest thermostat will become the adaptive server for the internet of things inside your house,” Fanning explains.</p>
<p>“We are also working with systems people, like Google and others, to tie it all together. We think instead of a smart meter being the hub, which I have always been on record against, we believe a smart thermostat evolving into a smart server is really the way this will occur.”</p>
<h4><b>Constraints on the Future</b></h4>
<p>Southern Company is playing offense on many fronts and that brings to mind resource and financial constraints.</p>
<p>“Here is the blessing of Southern Company. We have the scale and we have the technical depth through our research, through the kind of people we have,” Tom assures.</p>
<p>“We have the quality of regulation. We are an integrated, regulated utility in the southeast, and therefore I think it is a much more constructive business model on behalf of the customers and us. That is why we are the only company in America that is all of the above. We can, in fact, plan an optimal portfolio. If you are in a so-called organized market, you don’t have that ability. We have scale, financial integrity, technical depth, regulatory regimes that are supportive to be able to do these things.”</p>
<p>“Now, what are the constraints? Our financial capacity is pretty large. The constraints themselves are not very big, because we are so big. We can make lots of bets. We’ve done these [acquisitions], and maintained a posture of a financial integrity that is fantastic. In fact, if you look in the market, I think the past two years, Southern Company has had, I think among the S&amp;P 500, the lowest beta, the lowest systematic risk measure of any stock in the S&amp;P 500, and that is because investors believe we can execute our business in a highly-sustainable, predictable way. We have been able to grow our dividends. We have been one of the few companies in America never to have reduced our dividend. We have increased it now fourteen years in a row. In fact, what I said upon the acquisition of AGL Resources, with the profile that [the acquisition] gives us, I think we can increase the rate of growth of our dividend. This notion of financial constraints, while I suppose there is a theoretical limit, I don’t see it right now. We can do everything we want to do.”</p>
<p>“One of the tenets of chaos theory says that the variance in nature is typically bigger than what you quantitatively measure, and I kind of believe that. When you think about all of the change in front of us, I think the way to play that change is not to make enormous static bets, determinate bets, but rather make bets that are either options within themselves or reasonably-sized bets. The AGL acquisition creates other options. And that is the way we are pursuing it. The greater the volatility, the greater the uncertainty, the greater the value your options have. That is just straight finance theory, and that is the way we are playing it.”</p>
<p>So as we march forward at perhaps one of the most interesting times in the history of our industry, look for Tom Fanning to continue to lead Southern Company’s offensive strategy on many fronts. He is employing attributes that are the hallmark of generalship that wins battles: initiative, tenacity, cleverness, celerity, and audacity.</p>
<p>Tom’s oft-mentioned epigram encapsulates his and Southern’s inexorable advance. “You can’t keep the waves off the beach.” <br /> </p>
<p><em style="font-size: 13.008px;">To hear the full interview and more about Fanning leading cybersecurity efforts for the industry and his chairmanship at EEI, </em><em style="font-size: 13.008px;">visit the podcast <a href="https://itunes.apple.com/us/podcast/leadership-lyceum-ceos-virtual/id1118682019?mt=2" target="_blank">Leadership Lyceum: A CEO’s Virtual Mentor</a> at iTunes or:</em></p>
<p><em style="font-size: 13.008px;">Listen to part 1</em></p>
<p><em style="font-size: 13.008px;"><audio controls><br />
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<p><em style="font-size: 13.008px;">Listen to part 2</em></p>
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</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/natural-gas">Natural Gas</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/renewables">Renewables</a></li><li class="taxonomy-term-reference-2"><a href="/article-categories/strategy-planning">Strategy &amp; Planning</a></li><li class="taxonomy-term-reference-3"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-FEA1.jpg" width="875" height="548" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Fri, 23 Sep 2016 20:07:09 +0000meacott23326 at https://www.fortnightly.comTop 20, and Why Financial Strength Mattershttps://www.fortnightly.com/fortnightly/2016/10/top-20-and-why-financial-strength-matters
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>The Return for Customers of the Return for Shareholders</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Steve Mitnick</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Steve Mitnick</strong> is Editor-in-Chief of <em>Public Utilities Fortnightly</em> and author of the book “Lines Down: How We Pay, Use, Value Grid Electricity Amid the Storm.”</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - October 2016</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p>Take a look at this issue’s Mega Metrics feature. It has our <a href="https://www.fortnightly.com/fortnightly/2016/10/puf-top-20-financial-performers" target="_blank">2016 Top Twenty Financial Performers.</a></p>
<p>Top Twenty? I know what you’re thinking. Isn’t this annual ranking of ours a top forty? </p>
<p>It’s not that the list has half the companies and therefore is half as valuable. Yes, the list is half the size. But it’s twice as valuable. Or thereabouts.</p>
<p>The Top Twenty ranking is now limited to investor-owned electric utilities and combination electric and gas utilities. It’s also limited to such companies, electrics and combos, with revenues last year of at least a billion.</p>
<p>We did this so as to not mix up large electrics and combos with companies that are miles apart in strategy, situation and size. There are many great investor-owned electrics that are relatively small. And there are many great gas utilities, large and small. And great non-utilities that own and operate electric and gas assets.</p>
<p>But as investments, they’re not all that comparable, if we put them in a single bucket with large electrics and combos. The bucket would be too varied for the purpose.</p>
<p>In the world of finance, investors have numerous choices as to where to place their bets. It’s unclear that investors consider as comparable, a large electric with a large or small gas, any more than with a large highly-regulated non-energy company.</p>
<p>There’s a second reason to shrink our annual ranking from forty to twenty. As chronicled in the series of articles by Tom Flaherty, the total number of electrics and combos and gas companies is shrinking. <em>(See <a href="https://www.fortnightly.com/fortnightly/2016/09/lessons-tomorrows-deals" target="_blank">“Lessons for Tomorrow’s Deals,”</a> Sept. 2016, and <a href="https://www.fortnightly.com/fortnightly/2016/06/expanding-deals-shrinking-companies" target="_blank">“Expanding Deals, Shrinking Companies,”</a> June 2016.)</em></p>
<p>It made sense to highlight forty firms when there were well over a hundred in aggregate. But when there are half that number in aggregate?</p>
<p>The Top Twenty ranking is a good read. Who’s on top? Who’s not?</p>
<p>But why does it matter? It does matter. Because the financial strength of our utilities matter, and not just for shareholders.</p>
<p>We must put forth, at first, an important caveat. If you believe the nation’s electric grid (including its generating, transmission and distribution infrastructure) doesn’t need much tending to, doesn’t need much capital investment, then the financial strength of our utilities doesn’t matter much to you.</p>
<p>But consider the converse. If you believe the grid does need much tending to, does need much investment, then the financial strength of our utilities does matter a whole lot to you.</p>
<p>Notwithstanding all the rhetoric about the utility of the future, I’m supposing that most of you agree that grid upkeep and modernization is vital to the welfare of our communities and families. And thus utility financial strength is as vital.</p>
<p>Now agreement does break down once we dig deeper. The debate reminds me of my work in national defense strategy when I was much younger. The basic question is this. How much defense capability is enough (in quantity and quality of military equipment and the armed forces)? How much is too much?</p>
<p>The same basic question faces us when we think about utility financial strength, and its regulatory underpinnings such as return for shareholders. How much utility capability is enough (in quantity and quality of grid equipment and the workforce)? How much is too much?</p>
<p>Yet, this basic question is tougher to address for us, than for the world of defense strategy. In defense, the federal government approves a certain budget for our force structure. That’s more or less it. The Pentagon then has a fixed amount of financial resources to get the biggest bang for the buck, in terms of maximizing national security.</p>
<p>In utilities, regulators approve a certain budget of sorts, the revenue requirement, for a utility. However, that’s hardly it. The utility then has a range of financial resources to get the biggest bang for the buck, in terms of maximizing service reliability.</p>
<p>Why a range of financial resources rather than a fixed amount? Because the utility leverages its financial strength, provided in regulatory orders, to use the substantial funds of equity and debt investors, to multiply the resources for reliability.</p>
<p>The more the return for shareholders, the more funds investors are willing to let a utility use. The less the return for shareholders, the less funds investors are willing to let a utility use, versus let some other companies use.</p>
<p>In rate cases, we wish we had a magic formula. If the allowed return on equity is set at eleven percent, for example, a utility will have enough financial strength to do everything customers would want, to maximize their service reliability. If the allowed return is set at ten percent, the utility won’t. Ten and a half percent? How much reliability does that buy customers?</p>
<p>Regrettably, there is no such magic formula. My apologies to rate-of-return expert witnesses, an exclusive club of which I was once a member.</p>
<p>Indeed, it’s a perception game. Thomas Edison Power and Light is perceived by the financial community to be financially strong. Nikola Tesla Gas and Electric is perceived by them to be weak. And George Westinghouse Energy is perceived by them to be in the middle.</p>
<p>So investors are eager to put their money down for Thomas Edison P&amp;L, reluctant to do so for Nikola Tesla G&amp;E, and wary to do so for George Westinghouse Energy. The communities and families served by Thomas Edison P&amp;L will get the best equipment and people to keep the lights on through storms.</p>
<p>Those served by Nikola Tesla G&amp;E will be short-changed.</p>
<p>If it’s a perception game, that means utilities, regulators and intervenors are all on the same team. However much they squabble in the hearing room, they must jointly persuade the financial community that a utility is strong enough to take good care of investor funds, all the funds that can be effectively deployed to maximize service reliability.</p>
<p>That is, again, if you feel maintenance and modernization of our electricity infrastructure is a priority for the customers we represent and serve. I know there are folks that have other priorities, such as making the grid plug-and-play for new entrants. They might believe the return for utility shareholders may as well be zero. Though I doubt these folks would reach their goals in a darkened future of weakened utilities.</p>
</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/transactions">Transactions</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li><li class="taxonomy-term-reference-2"><a href="/article-categories/fortnightly-40-index">Fortnightly 40 Index</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-department field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Department: </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/department/frontlines">Frontlines</a></li></ul></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1610-EDIT-Mitnick.jpg" width="875" height="525" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Wed, 21 Sep 2016 16:25:36 +0000meacott23306 at https://www.fortnightly.comEnergy People: Bob Catellhttps://www.fortnightly.com/fortnightly/2016/09/energy-people-bob-catell
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>We talked with Bob Catell, former deputy chairman of National Grid plc.</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Bob Catell, with Steve Mitnick</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - September 2016</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p>Bob Catell was formerly the chairman and chief executive officer of KeySpan Corporation, the former Brooklyn Union Gas. His career with Brooklyn Union Gas started in 1958. He received his Bachelor's and Master's degrees in mechanical engineering from the City College of New York. Following National Grid's acquisition of KeySpan Corporation, Mr. Catell became chairman of National Grid U.S. and deputy chairman of National Grid plc.</p>
<p>Among his very many leadership roles, he served as chairman of the American Gas Association, and of the United States Energy Association. He's presently chairman of the Advanced Energy Research and Technology Center at Stony Brook University, and of the New York State Smart Grid Consortium.</p>
<p><b style="font-size: 13.008px; line-height: 1.538em;">PUF's Steve Mitnick: </b><span style="font-size: 13.008px; line-height: 1.538em;">What was an important turning point in your career?</span></p>
<p><b>Bob Catell: </b>A major turning point was the transaction on Long Island. Brooklyn Union Gas Company was trying to transform itself into more of a total energy company. We really had no room to grow in the gas business in the territory we served. So we looked to Long Island. We became involved in a very complicated political process to acquire the gas properties of Long Island Lighting Company and its electric generation.</p>
<p>I now found myself not only in the gas business, but also in the electric business. This was a time when the electric business was beginning its transformation to competition.</p>
<p><b>PUF's Steve Mitnick: </b>You started somewhat humbly. In the mail room, something like that?</p>
<p><b>Bob Catell: </b>I grew up in Brooklyn, went to public schools, and had the benefit of getting a free education at the City College of New York. I studied mechanical engineering.</p>
<p>I worked for six months at AT&amp;T. It was when it was called "Ma Bell."</p>
<p>AT&amp;T had about five hundred thousand employees. I didn't think I would have much of an opportunity in a company that large.</p>
<p>Then I saw an ad in the paper for engineers at the Brooklyn Union Gas Company. I was interviewed, hired, and started as a junior engineer in the meter repair shop.</p>
<p><b>PUF's Steve Mitnick: </b>Your career took off at some point. Were there some key people, mentors or bosses, that propelled you?</p>
<p><b>Bob Catell: </b>I was very fortunate. Even though I started as a junior engineer, in the meter repair shop, I advanced and progressed to becoming a field engineer. It was in the outside construction area, putting gas pipes in the ground. I was able to learn the gas business from the "ground floor."</p>
<p>I had the good fortune of working for a number of really great gentlemen. They shaped my career and my life.</p>
<p>One was a gentleman named Gene Luntey. He eventually became the chairman and CEO of the Brooklyn Union Gas Company. Gene was "Mr. Methane." We were the first ones in the industry who saw the benefits of methane, and all that it could do for energy and the environment.</p>
<p>The other person was a gentleman named Elwin Larson. He followed behind Gene and became chairman and CEO. El taught me a lot about leadership.</p>
<p>There was a point in my career when I was going to leave. I had been with Brooklyn Union about fifteen years, and was looking around to see where I should go. I actually sat down with both of them [Gene Luntey and Elwin Larson]. They advised me to hang in there, so to speak.</p>
<p>They said, "Bob, you can have a good career here at Brooklyn Union. You don't really need to leave." That was a very instrumental turning point in my life.</p>
<p>I decided to stay. It all worked out pretty well. After thirty-three years with the company, I rocketed to the top and became president and CEO in 1991.</p>
<p><b>PUF's Steve Mitnick: </b>You're known as an incredible motivator and leader. How did these skills play a role in your career?</p>
<p><b>Bob Catell: </b>I was very fortunate. I was raised by a single parent, my mother. While she didn't have a college education, she had a lot of common sense. What she taught me, in addition to "you will go to school and get your education," is respect for people. Have respect for individuals no matter who they were and no matter what station they had in life. It didn't matter about race, religion, or color. All people deserved respect.</p>
<p>I think that was an important thing for me to carry forward, to treat people with respect. And being an engineer, you also learn how to solve problems, whether an engineering problem or a people problem. In life, it's all about solving problems.</p>
<p>I try to approach my life that way. Treating people with respect. Figuring out ways to solve problems.</p>
<p><b>PUF's Steve Mitnick: </b>You were at Brooklyn Union Gas. It became KeySpan at some point. Then there was the mega-combination with National Grid. What were the key turning points, going from a fairly small company to one of the largest energy companies in the northeast?</p>
<p><b>Bob Catell: </b>It started with Brooklyn Union. We were just a gas company in Brooklyn, Queens, and Staten Island. We were very effective in competing with the oil companies. We converted eighty percent of the market to natural gas.</p>
<p>We didn't have any room to grow. So we looked to get into other energy-related businesses. We formed an exploration subsidiary, the Houston Exploration Company, which we eventually took public and sold.</p>
<p>At that point, I had a vision that we were going from the well head to the burner tip. It didn't quite work out that way, but that was my concept. We formed an oil and gas exploration company to have our own supply. Then we got into pipelines to deliver gas to the market. </p>
<p>We built the Iroquois pipeline. It was bringing western Canadian gas to the market in the northeast, because at that time, we thought we were running out of natural gas in the lower 48.</p>
<p>We also acquired the midstream properties of Gulf Canada. We formed a company called KeySpan Canada. Eventually it became Keyera, a public company located in Alberta.</p>
<p>That's when we formed the holding company KeySpan. We needed to keep our unregulated businesses separate from our regulated businesses. That was a major turning point, I think, evolving to an energy company.</p>
<p>On the utility front, in 1998 we did acquire Long Island Lighting Company's gas properties, and four thousand megawatts of electric generation on Long Island.</p>
<p>In 2000, we acquired Eastern Enterprises up in New England. We grew to a company that now had close to ten thousand employees. If you counted our electric customers, we serviced over three million customers. So we became perhaps the largest gas and electric distribution company in the Northeast. </p>
<p>We reached a market cap of about seven billion. We grew quite nicely. Then we were approached by National Grid. They had acquired the properties of Niagara Mohawk in New York and the New England Electric System. They had an interest in acquiring additional utilities in the United States.</p>
<p>We had to make a decision, obviously, as to whether or not this was something we wanted to consider from the standpoint of our shareholders and employees. We were at a good size. But probably not big enough to survive as the utility industry was evolving.</p>
<p>After lengthy negotiations, National Grid offered to pay our shareholders forty-two dollars a share. This was about a twenty percent premium above the price we were trading it for in the market. </p>
<p>It allowed us to become part of a very fine global energy company. They were good enough to appoint me chairman of the U.S. operations, and vice-chairman of the National Grid PLC.</p>
<p>I spent the last two years of my career in that capacity. For me personally, it was a very gratifying conclusion to a very satisfying career.</p>
<p><b>PUF's Steve Mitnick: </b>You became quite a leader in electricity, after being primarily a leader in natural gas.</p>
<p><b>Bob Catell: </b>I had to learn the electric business when we acquired the generation of Long Island Lighting Company. Also, we entered into a contract to manage the electric distribution system for the Long Island Power Authority, so I had to quickly learn the electric distribution business.</p>
<p>I was very fortunate. The former LILCO employees were extremely competent, terrific people, and great operators of the electric system. We had the benefit of their experience and operating capabilities.</p>
<p>We were also fortunate to acquire, from Con Edison, when they were divesting of their generation, their large generating station, Ravenswood, which has been called Big Allis over the years.</p>
<p>We grew to own over six thousand megawatts of generation. Then we built a new two hundred-fifty megawatt combined cycle plant at the Ravenswood site. We were then fully into the competitive electric business with all that that entailed.</p>
<p><b>PUF's Steve Mitnick: </b>You wrote a book, fairly uniquely for a CEO in our industry. Can you talk a little about that, and your style for leading an energy company?</p>
<p><b>Bob Catell: </b>I was the co-author, although I really shouldn't take a lot of credit. A co-author of the book was a gentleman named Glenn Rifkin, a professional writer.</p>
<p>We had a great collaborator, a gentleman named Kenny Moore. He was a former Catholic priest, who left the priesthood. He's the monk, obviously, of "The CEO and the Monk."</p>
<p>The title of the book is "The CEO and the Monk." The subtitle is "One Company's Journey to Profit and Purpose." It focuses on how you change the culture of a company, in our case, from a very highly-regulated monopoly to a much more competitive company. </p>
<p>It describes a journey in changing the culture of the company; and in melding the two cultures, the Brooklyn Union culture and the Long Island Lighting Company culture, to become one company, KeySpan. It talks of many of the things we did and describes the role that Kenny Moore played in assisting me in accomplishing that.</p>
<p><b>PUF's Steve Mitnick: </b>Could you talk about what you're doing now?</p>
<p><b>Bob Catell: </b>I have the honor of being chairman of the Advanced Energy Research and Technology Center out at Stony Brook University. The other hat I wear is chairman of the New York State Smart Grid Consortium.</p>
<p>At the Energy Center, I have the benefit of seeing new technologies that are being developed in both gas and electric. The Center is a Platinum-LEED "Center of Excellence for Energy in New York State."</p>
<p>The New York State Smart Grid Consortium is a collaboration of the utilities, technology companies, regulators, colleges, and universities, focusing on the modernization of the energy delivery grid.</p>
<p>I use the term energy delivery grid, not electric grid because I believe natural gas is a key player in the evolution of the energy delivery grid.</p>
<p>The rebirth of natural gas is very interesting to me. I went to Canada in the late 1980s, and the early 1990s. We built a pipeline to bring natural gas from Alberta to New York, because, as I mentioned earlier, we were told we were running out of natural gas in the Lower 48.</p>
<p>Of course, that's all completely changed. When I tell people about the future of the energy industry, I talk about two game-changers. I talk about the role of natural gas. And I talk about the role of new technologies.</p>
<p>I have the benefit of being involved in the transition, seeing the changes that are going on in the utility industry. There are more changes going on now than probably went on in the fifty years during my career.</p>
<p>I think there are many challenges. But I think there will also be many opportunities in the energy utility business in the future.</p>
<p><b>PUF's Steve Mitnick: </b>People think of the word "leader" when they think of you. Our readership includes thousands of present and future leaders. What advice would you give to them?</p>
<p><b>Bob Catell: </b>I believe leadership starts by treating people with dignity and respect. Motivating them to do the best they can in their jobs and recognizing and rewarding their accomplishments. I think there are a lot of great leaders in the energy industry, particularly those in the utility sector, those in the technology sector, and I'll include regulators as well. Evidence of that is the proceeding going on in New York State, where, in the "Reforming the Energy Vision," regulators are taking a leadership role in the evolution of the energy industry.</p>
<p>I would say there are many opportunities that can be taken advantage of. The utility model is significantly changing. Leaders need to look for opportunities in the new utility industry, with the new business models that are evolving. They need to be willing to take some risk. It's not going to be the same old utility any more.</p>
<p>Having said that, with some foresight and with some innovative thinking, it can still be a very exciting and rewarding industry to work in, and by taking advantage of the new technologies that are becoming available in the marketplace, the consumers can be better served. </p>
</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/natural-gas">Natural Gas</a></li><li class="taxonomy-term-reference-1"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA2.jpg" width="875" height="618" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Tue, 30 Aug 2016 18:46:43 +0000meacott23121 at https://www.fortnightly.comLessons for Tomorrow's Dealshttps://www.fortnightly.com/fortnightly/2016/09/lessons-tomorrows-deals
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Many Deals Completed, What Have We Learned?</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Tom Flaherty</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Tom Flaherty</strong> is a partner with Strategy&amp; – a part of the PwC network – who has focused on utility growth strategy, mergers and acquisitions (M&amp;A), and business transformation for over forty years. He has been involved with approximately eighty percent of utility M&amp;A stock transactions greater than a billion dollars in the U.S., and supported clients in Great Britain, Italy, Spain, France, Argentina, Venezuela, Australia, and Canada in consolidation or carve-out assignments. He has also provided expert testimony in more than thirty jurisdictions on utility combinations and benefits.</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - September 2016</div></div></div><div class="field field-name-field-import-image field-type-image field-label-above"><div class="field-label">Image:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-fig1.jpg" width="1320" height="855" alt="Figure 1 - Positioning the Deal" title="Figure 1 - Positioning the Deal" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-fig2.jpg" width="875" height="608" alt="Figure 2 - Long Distance Deals" title="Figure 2 - Long Distance Deals" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-fig3.jpg" width="875" height="415" alt="Figure 3 - Sources of Value" title="Figure 3 - Sources of Value" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-fig4.jpg" width="1378" height="973" alt="Figure 4 - Getting to Close" title="Figure 4 - Getting to Close" /></div><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-fig5.jpg" width="1358" height="747" alt="Figure 5 - The Four Deadly Integration Sins" title="Figure 5 - The Four Deadly Integration Sins" /></div><div class="field-item odd"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-fig6.jpg" width="2038" height="635" alt="Figure 6 - Competing Post-Close Priorities" title="Figure 6 - Competing Post-Close Priorities" /></div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p>Over the last twenty years, the U.S. utility sector has gradually dwindled. The power sector shrunk by approximately sixty percent, from ninety-five to just under forty companies. The gas sector shrunk by an equivalent percent, from just over fifty companies to right at twenty.</p>
<p>Numerous other companies tried to consolidate, only to find that striking and concluding a deal is hard, notwithstanding the industrial logic that underpins the combination. Yet, this experience gained over the last two decades of consolidation activity has been a wise teacher to the industry.</p>
<p>Both successful and failed deals have been instructive to utility managements on whether and how to position a proposed transaction for pursuit and approval. These lessons from the front - whether related to competitive, value, regulatory or execution experiences - provide valuable insights to those companies considering their first combination. As well as to those companies pursuing further scale-up.</p>
<p>Successfully incorporating these lessons into future deal planning can help merging companies avoid both time delays and adverse outcomes.</p>
<h4><b>Consolidation in Perspective</b></h4>
<p>Reducing the scale of both the power and gas sectors by approximately sixty percent in just twenty years is not just an outcome linked to the unique strategies of a host of prior deals. Rather, it is a product of the utility industry's rapid evolution to a point where consolidation is no longer viewed skeptically, but is widely expected and keenly awaited. </p>
<p><b>Lesson 1: Industrial Logic Continues to Evolve</b></p>
<p>In the mid-1990s, the utility industry landscape looked nothing like what we see today. Utility service territories often were interlaced across geographies, leaving the visual of a balkanized industry. Thus, early day combinations were keen to leverage the most obvious of rationales: contiguous service territory.</p>
<p>Managements believed that close proximity enhanced the chance to provide increased scale to weather imminent competition, leverage brand reputation, and maximize deal synergies.</p>
<p>These initial transactions focused on creating a larger company of common assets within a logical footprint. It didn't take long, however, for companies to consider that the greatest strength to withstand competition, besides low costs, was to have more customers to serve.</p>
<p>Thus, the convergence of electric and gas combination companies began to occur. With more customers to serve, more services to offer, and less possibility of encroachment, broader offering potential could yield greater revenues and enhanced customer loyalty.</p>
<p>A logical notion that the industry still seeks to realize today.</p>
<p>Merging companies today often rationalize their transactions as predicated on positioning and platforms. The evolution of distributed technology makes alternative supply of generation available to all classes of customers and causes companies to focus on understanding emerging technologies, sub-markets, and customer behaviors.</p>
<p>This need is leading to the desire to fill gaps in capabilities, such as positioning, through experiences, skills, relationships and arrangements that may be maintained by a potential merger partner.</p>
<p>See Figure 1.</p>
<p>With the expected shift towards gas-based sources of supply, companies are also placing a greater interest on related resources, such as pipelines, storage, reserves and basins. These assets are now viewed as valuable platforms for further expansion and value.</p>
<p>Now the industrial logic for recent deals has evolved beyond proximity and optimization to leverage and growth.</p>
<p><b>Lesson 2: Geographic Proximity No Longer Matters</b></p>
<p>Utilities recognize that the industrial logic for a transaction is closely scrutinized and business coherence is highly valued and expected by the markets and regulators. But in a shrinking industry, and with many sector earnings growth rates more in the four to five percent range than in the six to eight percent range of just a few years ago, companies are challenged to find attractive merger partners or acquisitions.</p>
<p>This scarcity of partners has led to electric and gas cross-over deals. But it has also expanded management horizons beyond natural borders and obvious candidates. Many transactions now are comprised of partners that would not have looked likely ten years ago.</p>
<p>In fact, almost half of the last twenty non-financial buyer transactions have been announced by companies with headquarters more than five hundred miles away from one another. This affirms the rationale of several notable predecessor combinations that expanded management thinking on what deals could make sense.</p>
<p>See<i> </i>Figure 2.</p>
<p>The era of proximate transactions ended around 2000 with the emergence of cross-region deals that often brought two bookends together. These early forerunners proved that companies could manage across distance and that synergies could travel.</p>
<p>No artificial constraints existed that would limit the natural integration of many corporate functions, nor of business unit support functions. Governance processes could be successfully extended and physical and virtual integration was possible across much of the business.</p>
<p>This early experience has led to recent transaction conduct over even broader geographies, some stretching thousands of miles. When companies propose combinations that extend across multiple time zones, it naturally captures the interest (and sometimes the scorn) of industry pundits that question this industrial logic.</p>
<p>But distance does not totally undermine the benefits available from combination. In an era of increasing positioning and platform objectives, distance can actually advance strategic outcomes through portfolio strengthening.</p>
<p>With the long and sustained history of utility combinations over the last twenty years, the Monday morning focus is no longer on unexpected press releases, but on whether the market's expected next logical transaction is announced. The shrinking industry has conditioned observers to expect more transactions. The focus has moved to who rather than whether.</p>
<h4><b>Value in the Deal</b></h4>
<p>For decades, potential synergies levels have been headlines<i> </i>in deal press releases as companies touted a primary rationale for undertaking the combination. Companies acknowledged the obvious. Consolidation could unlock future value and reduce costs through avoiding duplication and overlap and capturing economies of scale.</p>
<p><b>Lesson 3: Synergies are Attainable</b></p>
<p>Synergies have been a primary outcome from combinations with estimated cost savings averaging approximately eight percent of total combined non-fuel operations and maintenance expense by the time steady state was achieved. Although this number can vary depending on the relative scale of the companies.</p>
<p>And, cash flow savings can be even greater as several synergies categories contribute capital expenditure, fuel or financing cost reductions that are sizable in their own right.</p>
<p>See Figure 3.</p>
<p>More impressively, utilities have had much more success in realizing estimated savings than their industrial counterparts. Most industrial deals contain some promise of revenue synergies from new markets, products or customers, which required betting on top-line growth which is the least controllable management lever in a transaction.</p>
<p>And this new revenue was expected from companies that may have only been tangentially aligned, meaning their purpose was to create something new.</p>
<p>Conversely, electric-to electric or gas-to-gas utilities transactions are fully operationally overlapping, with almost no difference in fundamental composition other than generation fuel sources.</p>
<p>Given this high degree of structural and operational commonality, it is not surprising that the utilities sector has consistently hit its targets for identified synergies realization. While industrial companies often find that revenue expectations are overstated and under-achieved.</p>
<p>The fact that the utilities industry has successfully demonstrated the ability to capture expected synergies has favorably influenced how Wall Street views transaction announcements. Effective synergies realization supports the expected rationale for most transactions and illustrates management prowess in deal execution. </p>
<p><b>Lesson 4: Value Extends Beyond the Quantifiable</b></p>
<p>But many other value sources were realized in these prior deals, both qualitative and quantitative. Often discounted, the value of scale is a significant benefit from consolidation, but not just because bigger is better.</p>
<p>The value of scale lies in enhanced flexibility rather than size for its own sake. There is no question that scale provides access to opportunities that may have otherwise previously been foreclosed. And scale provides an ability to weather disruptions to cash flows.</p>
<p>However, the value of scale is best reflected through the additional flexibility possible to companies from having greater financial strength and capacity, whether for financing, investment, market positioning, or strategic purposes. This flexibility enables acquirers to leverage more options than other less financially sufficient companies. As well as to sustain market strategies when challenges emerge.</p>
<p>Prior combinations also have added value in several other areas that contribute to the strategic positioning of the acquirer: broader value chain participation, addition of new capabilities and greater market diversity.</p>
<p>All of these areas can enhance the nature of other potential synergies that may be available. And each independently can add unique forms of value, such as new investment (value chain), go-to-market execution (capabilities), and risk management (market diversity).</p>
<p>The utilities industry, and its customers and shareholders, have been beneficiaries of its prior acquisitiveness. Both the rate of cost growth and actual cost levels at the time of the transaction declined as a result of completed transactions. Compared to other industries, power and gas utilities have delivered on the promise.</p>
<h4><b>Regulatory Challenges</b></h4>
<p>Despite the industry's success in financially and operationally executing combinations, transacting utilities have always felt a high degree of trepidation about their pursuit. Companies have been (and remain) skeptical about what kind of regulatory outcome would be received and whether the benefits attained justified the risks assumed.</p>
<p>And managements are justified in worrying about the regulatory outcome. After all, no one wants to expend nine to twelve months of effort only to see their transaction fail due either to unrelated regulatory agendas, inequitable benefits sharing, or intrusive financial "look-throughs" that can have adverse capital structure impacts.</p>
<p><b>Lesson 5: Most Regulatory Decisions Are Equitable</b></p>
<p>However, the regulatory track record on deal approvals over time has been good and savings sharing outcomes have been acceptable, when regulators actually get to inspect them. Compared to the late 1990s, few deals do not ultimately receive approval. Moreover, regulatory commissions have maintained close to fifty-fifty sharing of synergies in cases where they were presented.</p>
<p>It is clear that regulatory commitments and conditions required in every deal have become more demanding, limiting or expensive. But these are simply the price of admission. Most requirements have not been onerous and many are simply acknowledgement of what already exists in practice with the regulator, such as dividend restrictions, commission notice, etc.</p>
<p>Other conditions, such as headquarters retention, minimum employee levels, etc., are more directed and stringent, but not unduly restrictive. And other commitments, such as maintained charitable contributions, increased low income assistance, etc., are relatively small in comparison to the levels of synergies and value inherent in the transaction.</p>
<p>Admittedly, recent approvals have been challenging and often looked unattainable based on public sentiment and regulatory posturing. But managements persevered and overcame table stakes issues related to public benefits (or no harm) standards, employee treatment, and reliability preservation. They also successfully dealt with non-deal issues, such as renewables commitment, grid modernization, and generation policy alignment.</p>
<p><b>Lesson 6: Benefit Clarity Drives Regulatory Decisions </b></p>
<p>In some recent cases, however, regulators have been asked to approve the transaction without any submission of quantifiable benefits to customers. The logic of late has been that the simplest way through a transaction process has been to not talk about cost savings that could come at the expense of local jobs.</p>
<p>Companies have used a range of rationales for this approach. These stretch from there are no synergies, to any synergies will automatically flow through in the next rate case, to let's just negotiate an outcome.</p>
<p>This approach leaves regulators in a position where they either have to look past their own state approval standards, ask for a specific synergies study to be filed late, or impute a level of savings to the transaction. All of which have happened in recent deals.</p>
<p>These options leave the merging companies in a higher risk position regarding decision timing and ultimate approval, compared to a more standard approach of filing quantified benefits up front.</p>
<p>In several recent cases, the transaction timeline was either stretched out for an extended period and or benefits stipulation was one-sided and the companies were hostage to an open ask with no ceiling.</p>
<p>In several of these transactions, the level of imputed savings became the focal point for approval. An escalating bid was necessary to overturn a transaction disapproval decision and rescue the deal. These filing strategy decisions unintentionally exposed the merging companies to a higher level of approval risk than necessary.</p>
<p><b>Lesson 7: Approval Timeframes Are Shrinking</b></p>
<p>Since regulators have become more familiar with utility combinations, approval timeframes have generally stabilized and shortened. Unless the filing strategy itself created delay due to the need for more complete information, or isolated agendas became linked with the transaction approval process.</p>
<p>Average transaction timelines since 1995 have generally contracted from approximately sixteen to eighteen months, to approximately eight to nine months. Commissions have also become more specific about the merger standards they will employ.</p>
<p>See Figure 4.</p>
<p>Transaction approvals are also accelerating as companies more aggressively pursue settlements, given the focus on meeting more explicit standards.</p>
<p>Some isolated transactions have extended into the plus or minus eighteen-month window from filing to approval. These transactions generally were extended by the lack of benefits demonstration, hostile reactions to transaction structures, or FERC market power issues that emerged.</p>
<p>Multi-state transactions will normally see the longest approval durations given the range of issues involved across the regulatory agencies. Transactions that also involve nuclear plants or tight generation markets also can see extended timeframes. Logically, single state convergence mergers generally see the shortest schedules.</p>
<p>The shrinking of deal approval timeframes is an important outcome that can influence how companies consider possible transactions. Knowing that the companies will not be held hostage to an extended unpredictable approval duration relieves the fears of management that they will sit in regulatory purgatory and miss future strategic opportunities.</p>
<h4><b>Post-Close Execution</b></h4>
<p>While utilities have little direct control over how regulators will respond during the deal approval process, they have full control over what happens after transaction close: actual integration and post-close operations. Many companies conduct this stage of the deal lifecycle very well. However, ultimate integration success hinges on how aggressively management chooses to define and pursue integration.</p>
<p><b>Lesson 8: Integration is the Hardest Part of the Deal</b></p>
<p>Managements are often lulled into believing that once the deal is negotiated and approved the hardest transaction chore has been completed. This is a common fallacy, even when merging companies have experience from a prior transaction. If management does not get this part of the deal process right, then it can saddle the combined business with challenges that can take years to unwind.</p>
<p>See Figure 5.</p>
<p>While the negotiation and regulatory processes may seem like they have been challenging in their own right, the real work begins when the deal actually closes. And this is when those least involved in the deal become responsible for the most demanding part of the transaction.</p>
<p>Integration is hard because the process requires substantial work to be done in a timeframe when each company still understands very little about how each really operates. It is also difficult as it forces managements to make decisions about how to operate before they may be ready to define these outcomes.</p>
<p>These factors challenge companies to place their bets on strategies, technologies, processes, and people with much still to learn about their partner. Success post-close is highly dependent on how the merging companies philosophically approach integration.</p>
<p>If they believe that business simplicity is a cornerstone, then they will seek to fully integrate as quickly as possible. Conversely, if they believe that a single operating model is not required, then they may pursue separation as a better solution.</p>
<p>One of the above models will typically prevail when deal economics matter. The other will be adopted when less change is viewed as advantageous to avoid disruption.</p>
<p><b>Lesson 9: Early Starts Make a Difference</b></p>
<p>Given the challenges above, it makes sense for managements that decide to integrate fully to do it rapidly. Success here lies in taking advantage of the available time window provided by the approval process.</p>
<p>As illustrated earlier, the average regulatory approval process extends for approximately nine months. This provides ample time to conceive, plan and execute a fulsome integration process, even if there is uncertainty over many decisions in the near-term.</p>
<p>We have found that rapidly and fully utilizing this nine-month window pays dividends to the buyer immediately. The process creates a forcing function for cooperation where cross-knowledge is minimal.</p>
<p>It also jumpstarts the countdown to post-close operations and brings focus to what it takes to achieve a well-defined and low risk Day-1 close. Perhaps the greatest value lies in the ability to quickly move toward joint operations rather than to remain separate for an extended period of time.</p>
<p>This outcome benefits the post-close company operationally as roles and responsibilities are established. It benefits it financially as available synergies can be more quickly captured and value from the deal accelerated.</p>
<p>The early start to integration enables the management team to focus internally on bringing the companies together rapidly. But it also enables the refinement or reconstruction of the going-forward strategic plan and path to growth. While the companies cannot actively execute together during the approval pendency, having a clear view of priorities serves them well post-close.</p>
<p><b>Lesson 10: Always Finish the Task</b></p>
<p>It is tempting to declare victory once the approvals are received and Day-1 close is addressed. But this would expose the merged company to unnecessary operating risk and create potentially adverse shortfalls to outcome attainment.</p>
<p>Once the deal closes, the transaction and integration teams can believe their work is done and hand the remaining work over to the business and functional managements going forward. But at close, nothing has actually been integrated. It's only been planned. It may take still several years to successfully complete.</p>
<p>Totally disbanding the integration teams often leads to several adverse outcomes: stalled momentum, decision rethinking, conflicting priorities and lost value, among others. This can cause conflict between transaction and operational objectives.</p>
<p>See Figure 6.</p>
<p>Better to leave the integration process in-place, though refocused, than to take the risk that months of good work could be undone by a desire to devolve ownership of actions prematurely.</p>
<p>These challenges to integration success suggest that managements recognize that finishing the job is fundamental to success. If retaining more formal ownership or oversight of continued integration enhances the attainability of post-close operations success, then these outcomes will have been worth the extra effort expended by management.</p>
<p>The last twenty years of utility combinations have set a tone for the shape and pace of future consolidation. The industry cannot replicate what has transpired in this past timeframe. But it can leverage this body of knowledge to position future transactions for successful outcomes. And it can avoid many of the challenges that prior transactions experienced as they forged a new industry direction.</p>
</div></div></div><div class="field field-name-field-article-category field-type-taxonomy-term-reference field-label-above clearfix"><h3 class="field-label">Category (Actual): </h3><ul class="links"><li class="taxonomy-term-reference-0"><a href="/article-categories/mergers-acquisitions">Mergers &amp; Acquisitions</a></li></ul></div><div class="field field-name-field-members-only field-type-list-boolean field-label-above"><div class="field-label">Viewable to All?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-article-featured field-type-list-boolean field-label-above"><div class="field-label">Is Featured?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-image-picture field-type-image field-label-above"><div class="field-label">Image Picture:&nbsp;</div><div class="field-items"><div class="field-item even"><img src="https://www.fortnightly.com/sites/default/files/1609-FEA1-Flaherty.jpg" width="1449" height="957" alt="" /></div></div></div><div class="field field-name-field-fortnightly-40 field-type-list-boolean field-label-above"><div class="field-label">Is Fortnightly 40?:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div><div class="field field-name-field-law-lawyers field-type-list-boolean field-label-above"><div class="field-label">Is Law &amp; Lawyers:&nbsp;</div><div class="field-items"><div class="field-item even"></div></div></div>Tue, 30 Aug 2016 18:39:49 +0000meacott23116 at https://www.fortnightly.comEnergy People: Stan Garnetthttps://www.fortnightly.com/fortnightly/2016/08/energy-people-stan-garnett
<div class="field field-name-field-import-deck field-type-text-long field-label-inline clearfix"><div class="field-label">Deck:&nbsp;</div><div class="field-items"><div class="field-item even"><p>We talked with Stan Garnett, former senior exec of two utilities, the day after the United Kingdom voted to leave the European Union.</p>
</div></div></div><div class="field field-name-field-import-byline field-type-text-long field-label-inline clearfix"><div class="field-label">Byline:&nbsp;</div><div class="field-items"><div class="field-item even"><p>Stan Garnett, with Steve Mitnick</p>
</div></div></div><div class="field field-name-field-import-bio field-type-text-long field-label-inline clearfix"><div class="field-label">Author Bio:&nbsp;</div><div class="field-items"><div class="field-item even"><p><strong>Stan Garnett</strong> is presently with CFSD Group, LLC, which provides utilities with syndication advice and transaction structuring in securing debt funding from local and regional banking institutions. Previously, he was executive vice president of Florida Progress Corporation, and before that, senior vice president and chief financial officer at Allegheny Power System.</p>
</div></div></div><div class="field field-name-field-import-volume field-type-node-reference field-label-inline clearfix"><div class="field-label">Magazine Volume:&nbsp;</div><div class="field-items"><div class="field-item even">Fortnightly Magazine - August 2016</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden"><div class="field-items"><div class="field-item even"><p><b>PUF's Steve Mitnick:</b> Is the vote yesterday for the Brexit a concern to your clients?</p>
<p><b>Stan Garnett:</b> Yes. I can't comment about specific clients. Because that would involve our confidentiality. But it affects clients in a variety of ways.</p>
<p>Firstly, there's the potential impact on the European Community. With the myriad of things that could follow, including other countries departing.</p>
<p>Dislocation of trade, and all of that, is the type of economic condition that tends to roil markets.</p>
<p>Several weeks ago, Janet Yellen [Federal Reserve System board chair] referred to the possibility of Brexit as being something that the Federal Reserve considered, in not moving interest rates up at this time.</p>
<p>Since then, about two weeks ago, it looked like the option to remain in the European Community would win. That steadily changed. Yesterday it looked like it would be a dead heat. Then, when all of the votes were counted, Leave won by four percentage points. This was quite a surprise.</p>
<p>I thought that the Brexit vote would neatly frame a rather historic episode in the utility industry worldwide.</p>
<p>Go back to the 1980s. The London Interbank Offered Rate (commonly known as Libor) became the principle metric used worldwide in setting rates of interest, impacting literally trillions of dollars every day. That was such an extraordinary period of time.</p>
<p>In the U.S., we had the Public Utility Regulatory Policies Act, which was upheld by the Supreme Court. We saw a proliferation of independent generators.</p>
<p>The old established utility order in the U.S. was being changed. During this period in Britain, [prime minister] Margaret Thatcher privatized the various and sundry state-owned utility generators and distribution systems.</p>
<p>That was an extraordinary activity. Today, the British industry is almost not recognizable in relation to things that existed in the late 1980s. Of course, the U.S. industry has tremendously changed over that period of time too.</p>
<p>Often, a random event will impact your career, and this happened to me.</p>
<p>In the 1980s, I was the chief legal officer at the old Allegheny Power System. In 1990, I became the chief financial officer of APS.</p>
<p>During this period, one of the newly privatized British companies, East Midlands Electricity, had a brand new chief financial officer, or finance director as they call it. He decided he wanted to learn how things were done in the U.S.</p>
<p>That was because we were investor-owned. They had just become investor-owned. So one of our investment bankers, Tom Berry of Goldman Sachs, who had a relationship with East Midlands, suggested that this fellow come to New York to spend a couple of days with me.</p>
<p>So I met with this fellow. I actually had him sit in on some of our regular meetings to meet the other people in APS.</p>
<p>Then, a couple of things became very clear. One was that, uncannily, East Midland had a size, a generating mix, and a customer base that was almost a perfect match for APS.</p>
<p>It was incredible. You know that APS had a lot of industrial customers, as well as a lot of commercial and residential. Coal-firing was then and is still a very important aspect of our industry. East Midlands operated exactly the same way.</p>
<p>This started me on an awareness of Britain. And the fact that we had things we could learn from them, and vice versa. That really got a lot of things started.</p>
<p>In the process, I teamed up with my attorney, Doug Dunn of Milbank Tweed, who was the co-head of the global utility practice at Milbank Tweed. And with Joe Tenicki, who was a long time head banker at what is now JP Morgan Chase.</p>
<p>They were friends and professional colleagues of mine in New York. We invented this theory that an American holding company subject to the Public Utility Holding Company Act of 1935 could actually venture into a financial transaction, even a merger, with a foreign utility without the need to file.</p>
<p>It's Doug's so-called one-bite exception to the 1935 Act. So that started a series of business transactions. All of that ultimately led, in some indirect way, to the beginning of U.S. and U.K. firms merging.</p>
<p>Today we have quite a few U.S. companies that have important interests in Britain. And in other countries for that matter.</p>
<p>In any event, it was a total accident. Being in the right place at the right time. East Midland's fellow came over here. And that opened my eyes. And it really got things going.</p>
<p>It was also funny in a way, because I was a long-time United States Soccer Federation referee.</p>
<p>When I met the East Midlands fellow, he said, "Well, you probably don't know much about football." Of course he meant soccer. I actually knew a lot about it.</p>
<p>In the course of my travels back and forth, I remember that the finance director of National Power had essentially all of the generation in Britain. [National Power became Innogy, later a part of RWE, and International Power later a part of GDF Suez.]</p>
<p>It was state-owned. The finance director, Phillip Smith, invited me as his guest to come up to watch a soccer match at Leicester City.</p>
<p>They're the ones that just won the English championship. It's a small world. Because of my soccer background, it facilitated a lot of the conversations.</p>
<p><b>PUF's Steve Mitnick:</b> During those years when you were in leadership at Allegheny Power System and Florida Progress, you were also an experienced official in soccer. On certain days you were officiating games. How did that work?</p>
<p><b>Stan Garnett:</b> I've always tried to stay in shape. I don't like going into a gym. Being a soccer referee, you had no choice but to stay in shape. You had to run like crazy doing your job. So for me, it was my exercise program.</p>
<p>I did over one thousand matches in the United States Soccer Federation in my career. Every so often a player or coach would say something rude to me.</p>
<p>You're trained not to react to that. I think I never did. But it really helped me when I was an occasional expert witness for my company. It became funny. Somebody would say something and I'd say to myself, "Well I've heard a lot worse than that."</p>
<p><b>PUF's Steve Mitnick:</b><b> </b>At an early stage you were involved in the back and forth between the U.K. and U.S. systems including the drive to deregulate the U.S. based on changes in the U.K.</p>
<p><b>Stan Garnett:</b> Since we and the British speak a somewhat similar language, it was natural that we would have this communication and comparison. The British did some things very, very well, and still do.</p>
<p>They invented handheld meters, consistent with the Scots inventing a lot of stuff. Allegheny was, I believe, the first significant customer here.</p>
<p>I think we had strengths in information technology. It was recognition that we had investor-owned interests on both sides of the pond. There was a real benefit in comparing notes.</p>
<p>Since that time, I've had a series of wonderful experiences that continue to this day. I've introduced chief financial officers and chief executive officers to counterparts in another part of the world.</p>
<p>As an example, I introduced the finance director of a gigantic foreign utility system to another friend, who was the finance director of a big U.S. system. They bonded.</p>
<p>They had completely different personalities, walks of life. You name it. Yet they have the same job separated by thousands of miles. In both cases, it was dealing with the issue of nuclear.</p>
<p>Each of them had a very tough job. When you're the chief financial officer, you're the person that really has to be the gatekeeper on finance.</p>
<p>Tremendous pressures built up to go nuclear from the vendors. And in some cases, from the government.</p>
<p>Everyone knows that a nuclear project is a seismic event. Not only for a company, but for a region, and the country. The jobs that it produces, and all of that, is just a huge amount of pressure.</p>
<p>It was really a wonderfully useful thing for these two finance directors to be able to discuss, at a very high level, the significance of agreeing to undertake a nuclear program. Why you should do it. And then, importantly, why you shouldn't do it.</p>
<p>I saw that interaction lead to extremely good decisions being made at each company. I think that the ability of these fellows from totally different parts of the world to talk to each other helped them.</p>
<p>I know that when they were talking to their directors, they were able to say, "My colleague, such and so, in another part of the world is facing the same decision." Totally different boards of directors, of course, but this is the way we see it.</p>
<p><b>PUF's Steve Mitnick:</b> Would you talk about the pressures on you to go nuclear?</p>
<p><b>Stan Garnett:</b> I'll give you an example of a really talented bright man. It will answer your question.</p>
<p>This involved the old Allegheny Power System. The longtime chairman and chief executive officer was Charlie Finch.</p>
<p>He was the chief executive officer until about 1985. He and I were both alumni of the same law firm. We became very close for a lot of different reasons. He made a point of drilling the history of the industry into me.</p>
<p>Allegheny was one hundred percent coal. It had some peakers, a couple of hydro projects, but basically was one hundred percent coal. No nuclear.</p>
<p>During the 1980s, enormous pressure was put on him by the governors of a couple of states that had utilities doing nuclear projects. Allegheny, at the time, was a strong AA utility. The governors and other politicians who were involved wanted Allegheny's financial strength, to take a part ownership interest in several of these nuclear plants.</p>
<p>This was the governors picking up the phone. Or visiting in person. Really putting the pressure on. I would say that about their regulatory bodies too. They're independent from the governors. But they know who the governors are. And what the governors want.</p>
<p>So with all of this pressure, Charlie went through this period of time. I wasn't there. This was before I joined Allegheny. But he went through this analysis. He kept his handwritten notes.</p>
<p>Early in my career, he said, "Since you're a senior officer in the company and you seem interested in history, I want you to see what I had to go through." We spent hours in his office over time, where he was showing me calls he was getting.</p>
<p>He said he decided that he would not do it. And he gave me his insight. He said that he understands nuclear power. He believes that it will work. But he said nuclear power is best left in the hands of the government and particularly the military.</p>
<p>He said, "You've seen how in disciplining our workforce that we have to abide by labor agreements. If we're going to discipline somebody, we're often going to run into a grievance."</p>
<p>There can be civil losses. And everything like that. He said nuclear power requires military discipline. It requires people who are doing things to understand that, if you are asleep at your desk or something like that, you could be put in the brig. And that would be it.</p>
<p>He also said, "Unfortunately, we can't impose that sort of discipline." It was because of that. And the fact that costs of nuclear are so unpredictable. It takes about fifteen to twenty years from start to finish a nuclear project.</p>
<p>Over twenty years, look at all the things that can happen. You know that the cost of competitive fuels is going to fluctuate like crazy during that period of time. You know it does.</p>
<p>Accordingly, whatever your economic justification was for a nuclear unit in the beginning, it's going to go through changes. Sometimes it's going to look like a good investment. Sometimes it won't.</p>
<p>So at the end of the day, there just aren't American companies that are big enough to undertake a nuclear project. And to be able to absorb all of the changes in course.</p>
<p>So he had those two reasons. One operational, and the second financial.</p>
<p>It may be hard to believe today. Back then, very important elected officials were heavily pressuring Charlie and Allegheny to go nuclear. And he made the decision not to do it.</p>
<p><b>PUF's Steve Mitnick:</b> We've aggregated in the electric utility industry quite a bit over the last thirty years. What's your take on that?</p>
<p><b>Stan Garnett:</b> My take is that some companies have been very good at doing that, meaning acquiring another company and integrating the personnel.</p>
<p>Successfully taking in another company is not just an administrative thing. It requires a lot of interpersonal skill. And courage to make sure that the people that you're bringing in really are productive. History has shown that some companies have been able to do that time after time, and really were quite successful at doing that.</p>
<p>In other cases, I think companies were really pretty bad at it. Because my business, CFSD Group, serves the entire industry, I don't want sit here and say, "X Company was really good and Y Company was really bad." But I think someone probably could guess some of the bad examples. And some of the good ones.</p>
<p>If done properly, aggregation works well. The thing you have to watch out for is losing touch with the customer.</p>
<p>In that case, the customer isn't just the person that pays the electric bill. It's really the stakeholders in the communities you serve. Because providing reliable affordable electricity and gas is something that's really important to a community.</p>
<p>I have one long-term close colleague who is very important in a foreign country where mining is critical. Because of the problems of the electric supply in that country, they are constantly at risk of blackouts.</p>
<p>You know, you can't have people hundreds of feet down in a mine and have the electricity go out. Because of the problems in the electric supply, it has hurt the mining industry.</p>
<p>They've had to curtail operations. That has a run-on effecting everybody else. So staying in touch with your customers is important.</p>
<p>For example, the leadership of American Electric Power has been very good at devolving responsibility out to their subsidiaries that serve many different parts of the country. Thirty years ago, AEP was very centralized.</p>
<p>I've worked with them over that entire period of time. The current chief executive officer, Nick Akins, and his predecessor, Michael Morris, have devolved authority throughout the system. I think they've become pretty agile at connecting with the important stakeholders and customers in their various service territories.</p>
<p>Being big like that is good financially in many respects. But you need the ability to have the stakeholders in your far-flung territories well-served by the company.</p>
<p><b>PUF's Steve Mitnick:</b> What were some of the toughest challenges that you encountered?</p>
<p><b>Stan Garnett:</b><b> </b>The traditional utility format for management leads to a command and control environment. Where the people up at the top issue orders, and the orders kind of circulate down.</p>
<p>That's sort of inevitable, and is going to happen. But when you're dealing with the outside world, it usually doesn't work very well to just tell people what you want.</p>
<p>The toughest challenge is when you're dealing with the other stakeholders. Whether they're environmentalists, regulators, local businessmen, or elected officials. They usually have a very interesting point of view. You may not exactly agree, but you need to listen to it. In some cases, it's going to modify what you want to do.</p>
<p>So the challenge was to try to learn to be a leader and actually accomplish things. But at the same time being careful that you just didn't steamroller other people. Because if you do that, sooner or later you're going to make a mistake. And you're going to pay for it.</p>
<p><b>PUF's Steve Mitnick:</b> Can you recall one or two funny moments in your career?</p>
<p><b>Stan Garnett:</b> One which has had profound implications to me, was a number of years ago. I was interviewed by what is now the Tampa Bay Times about the Crystal River Nuclear Plant.</p>
<p>I had been an officer with the principal owner of the plant. The Times followed up with me because of my past involvement. They just wanted to know something about the financing aspect of it, which I had handled.</p>
<p>In any event, they printed the story. Because of that, a woman who was on a local utility board in the Crystal River area got in touch with me, and wanted to ask questions about it. I was single, and she'd been widowed about five years earlier. We just started talking about things. One thing led to another. I married her in Scotland in September of 2014.</p>
<p>So, the Crystal River Nuclear Plant and the Tampa Bay Times brought my wife, Gloria Fisher, and me together!</p>
<p><b>PUF's Steve Mitnick:</b> That's a great story! Can you also recall for us one or two individuals, whether they were mentors or colleagues, that had a big impact on your career?</p>
<p><b>Stan Garnett:</b> I've already mentioned Doug Dunn, now retired. He was an absolutely brilliant Wall Street lawyer. And a leader in both foreign and U.S. utility industries. He has been extremely important in much of what I've done.</p>
<p>Wendell Holland, former chairman of the Pennsylvania Public Utility Commission, is a partner of mine now. We go back to the same part of Pennsylvania fifty years ago.</p>
<p>He knows more about the regulatory process. He knows how it works. How it is important to try to work with regulators. And how a good regulatory commission adds value.</p>
<p>Most people don't think about regulators adding value. But they really do.</p>
<p>Then there's Julie Cannell. Julie led the utility investment operation for many years at Lord Abbett &amp; Company. Subsequent to that, she has been a private consultant on investor-related issues. She's got a private list of clients that's extremely impressive.</p>
<p>Julie has this skill of understanding what the investors need to know. What they want to know. And how to have the utility officials communicate better. She's not a spin doctor. She's very substantive.</p>
<p>And then there's Jim Speyer, an economist with expertise in coal and other fossil fuels. He has been an invaluable source to me in understanding how that works. He played an extremely important role in getting the Allegheny scrubber approved in the early 1990s.</p>
<p>Allegheny was more affected by the Clean Air Act Amendments of 1990 than any other utility in this country. Scrubbers are billion dollar pieces of equipment that actually reduce your capacity, because they take power to run. Jim headed up providing an answer on why that was the right thing to do. And then later in getting the approval through our commission.</p>
<p>I am fortunate to be able to say that Doug, Julie, Wendell and Jim have been partners of mine since 2009 in CFSD Group, LLC. </p>
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<a href="/tags/united-kingdom">United Kingdom</a><span class="pur_comma">, </span><a href="/tags/cfsd">CFSD</a><span class="pur_comma">, </span><a href="/tags/florida-progress">Florida Progress</a><span class="pur_comma">, </span><a href="/tags/allegheny">Allegheny</a><span class="pur_comma">, </span><a href="/tags/brexit">Brexit</a><span class="pur_comma">, </span><a href="/tags/janet-yellen">Janet Yellen</a><span class="pur_comma">, </span><a href="/tags/european-community">European Community</a><span class="pur_comma">, </span><a href="/tags/libor">Libor</a><span class="pur_comma">, </span><a href="/tags/thatcher">Thatcher</a><span class="pur_comma">, </span><a href="/tags/east-midlands">East Midlands</a><span class="pur_comma">, </span><a href="/tags/tom-berry">Tom Berry</a><span class="pur_comma">, </span><a href="/tags/goldman-sachs">Goldman Sachs</a><span class="pur_comma">, </span><a href="/tags/doug-dunn">Doug Dunn</a><span class="pur_comma">, </span><a href="/tags/milbank-tweed">Milbank Tweed</a><span class="pur_comma">, </span><a href="/tags/joetenicki">JoeTenicki</a><span class="pur_comma">, </span><a href="/tags/innogy">Innogy</a><span class="pur_comma">, </span><a href="/tags/gdf-suez">GDF SUEZ</a><span class="pur_comma">, </span><a href="/tags/phillip-smith">Phillip Smith</a><span class="pur_comma">, </span><a href="/tags/nuclear">Nuclear</a><span class="pur_comma">, </span><a href="/tags/charlie-finch">Charlie Finch</a><span class="pur_comma">, </span><a href="/tags/nick-akins">Nick Akins</a><span class="pur_comma">, </span><a href="/tags/wendell-holland">Wendell Holland</a><span class="pur_comma">, </span><a href="/tags/jullie-cannel">Jullie Cannel</a><span class="pur_comma">, </span><a href="/tags/lord-abbett">Lord Abbett</a><span class="pur_comma">, </span><a href="/tags/jim-speyer">Jim Speyer</a> </div>
</div>
Thu, 28 Jul 2016 13:16:32 +0000meacott22911 at https://www.fortnightly.com